2012-4-27 CFTC Final Commodity Options

8/2/2019 2012-4-27 CFTC Final Commodity Options

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25320 Federal Register / Vol. 77, No. 82/ Friday, April 27, 2012 / Rules and Regulations

117 CFR 145.9.

COMMODITY FUTURES TRADINGCOMMISSION

17 CFR Parts 3, 32, and 33

RIN 3038AD62

Commodity Options

AGENCY: Commodity Futures Trading

Commission.ACTION: Final rule and interim final rule.

SUMMARY: The Commodity FuturesTrading Commission (Commission orCFTC) is issuing a final rule to repealand replace the Commissions currentregulations concerning commodityoptions. The Commission is also issuingan interim final rule (with a request foradditional comment) that incorporates atrade option exemption into the finalrules for commodity options (added 32.3). For a transaction to be withinthe trade option exemption, the option,the offeror (seller), and the offeree(buyer), as applicable, must satisfycertain eligibility requirements,including that the option, if exercised,

be physically settled, that the optionseller meet certain eligibilityrequirements, and that the option buyer

be a commercial user of the commodityunderlying the option, and certain otherregulatory conditions. Only commentspertaining to the interim final rule will

be considered in any further actionrelated to these rules.DATES: Effective date: The effective datefor this final rule and the interim finalrule June 26, 2012.

Comment date: Comments on 32.3,the interim final rule portion of thisdocument, must be received on or

before June 26, 2012.Compliance date: For compliance

dates for these final rules, seeSUPPLEMENTARY INFORMATION at sectionIV(D), below.ADDRESSES: You may submit comments,identified by RIN number 3038AD62,

by any of the following methods: Agency Web site, via its Comments

Online process: http://comments.cftc.gov.Follow theinstructions for submitting comments

through the Web site. Mail: David A. Stawick, Secretary of

the Commission, Commodity FuturesTrading Commission, Three LafayetteCentre, 1155 21st Street NW.,Washington, DC 20581.

Courier: Same as mail above. Federal eRulemaking Portal: http://

www.regulations.gov.Follow theinstructions for submitting comments.

Please submit your comments usingonly one method.

All comments must be submitted inEnglish, or if not, accompanied by an

English translation. Comments will beposted as received to http://www.cftc.gov.You should submit onlyinformation that you wish to makeavailable publicly. If you wish the CFTCto consider information that you believeis exempt from disclosure under theFreedom of Information Act, a petitionfor confidential treatment of the exempt

information may be submitted accordingto the procedures established in 145.9of the CFTCs regulations.1

The CFTC reserves the right, but shallhave no obligation, to review, pre-screen, filter, redact, refuse or removeany or all of your submission fromhttp://www.cftc.govthat it may deem to

be inappropriate for publication, such asobscene language. All submissions thathave been redacted or removed thatcontain comments on the merits of thisaction will be retained in the publiccomment file and will be considered asrequired under the Administrative

Procedure Act and other applicablelaws, and may be accessible under theFreedom of Information Act.FOR FURTHER INFORMATION CONTACT:Donald Heitman, Senior SpecialCounsel, (202) 4185041,[email protected],Division of MarketOversight; Ryne Miller, AttorneyAdvisor, (202) 4185921,[email protected],Division of MarketOversight; or David Aron, Counsel,(202) 4186621, [email protected],Officeof the General Counsel, CommodityFutures Trading Commission, ThreeLafayette Centre, 1155 21st Street NW.,

Washington, DC 20581.SUPPLEMENTARY INFORMATION:

Table of Contents

I. IntroductionA. Dodd-Frank ActB. Notice of Proposed Rulemaking

February 3, 2011; Final Rule and InterimFinal Rule

II. Commodity Options BackgroundA. Commissions Plenary Statutory

Authority Over Commodity OptionsB. The NPRM Proposed an Overhaul of

Existing Commodity Options RegulationsIII. Comments on the Commodity Options

Proposal in the NPRMA. Request for Comment on the NPRM

B. Summary of Comments on the NPRM1. General Overview2. Comments on the Commodity Options

Proposala. Whether the Definition of Swap Includes

Commodity Optionsb. Trade Option Exemptionc. Eligible Contract Participants and Trade

Optionsd. FERC-Regulated Transactionse. Deleting the Dealer Option Provisionsf. Deleting the Agricultural Trade Option

Provisions

g. Options Fraud ProvisionsIV. Explanation of the Final Rule and Interim

Final Rule for Commodity OptionsA. IntroductionB. Sections Unchanged From the NPRMC. New Part 321. Final Rule2. Interim Final Rule; Trade Option

Exemptiona. Exemption From General Swaps Rules

b. Offerorc. Offereed. Physical Commodity Optione. Trade Option Exemption Conditionsi. Recordkeeping Pursuant to Part 45ii. Reporting Pursuant to Part 45iii. Annual Notice Filing Alternative to Part

45 Reporting; Form TOiv. Specific Request for Comment on Trade

Option Reporting and/or Notice FilingRequirements

v. Swaps Large Trader Reporting; PositionLimits

vi. SD/MSP Conditionsvii. Enforcement Provisionsviii. General Exemptive Authority RetainedD. Effective Date; Compliance Date

V. Interim Final Rule MattersVI. Request for Comment on Interim Final

RuleVII. Related Matters

A. Cost Benefit Considerations1. Background2. Statutory Mandate To Consider the Costs

and Benefits of the Commissions Action:CEA Section15(a)

3. Benefits and Costs of the Final Rulea. Benefits

b. Costs4. Interim Final Rule Benefits and Costsa. Benefits

b. Costsc. Costs and Benefits as Compared to

Alternatives

5. Section 15(a) Factors (of the Final Ruleand Interim Final Rule as a Whole)

a. Protection of Market Participants and thePublic

b. Efficiency, Competitiveness, andFinancial Integrity of the Markets

c. Price Discoveryd. Sound Risk Management Procedurese. Other Public Interest Considerations6. Request for Comment on CBC in

Connection With Interim Final RuleB. Regulatory Flexibility Analysis1. DCMs, DCOs, FCMs, CPOs, Large

Traders, ECPs, and ESPs2. SDs, MSPs, SEFs, and SDRs3. Entities Eligible To Engage in Options on

Physical Commodities on DCMs Under

Part 334. Entities Engaged in Options Under

32.13(g)5. Entities Engaged in Options Under

existing 32.4C. Paperwork Reduction Act

VIII. Final Rule and Interim Final Rule

I. Introduction

A. Dodd-Frank Act

On July 21, 2010, President Obamasigned the Dodd-Frank Wall StreetReform and Consumer Protection Act

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25321Federal Register / Vol. 77, No. 82/ Friday, April 27, 2012 / Rules and Regulations

2See Dodd-Frank Wall Street Reform andConsumer Protection Act, Public Law 111203, 124Stat. 1376 (2010). The text of the Dodd-Frank Actmay be accessed at http://www.cftc.gov./LawRegulation/OTCDERIVATIVES/index.htm.

3Pursuant to section 701 of the Dodd-Frank Act,Title VII may be cited as the Wall StreetTransparency and Accountability Act of 2010.

47 U.S.C. 1 et seq.57 U.S.C. 1a(47)(A)(iii)(XXII).6See 7 U.S.C. 1a(47)(A)(i). Note that the swap

definition excludes options on futures (which mustbe traded on a DCM pursuant to part 33 of theCommissions regulations) (see CEA section1a(47)(B)(i), 7 U.S.C. 1a(47)(B)(i)), but it includesoptions on physical commodities (whether or nottraded on a DCM) (see CEA section 1a(47)(A)(i), 7U.S.C. 1a(47)(A)(i)). Other options excluded fromthe statutory definition of swap are options on any

security, certificate of deposit, or group or index ofsecurities, including any interest therein or basedon the value thereof, that is subject to the SecuritiesAct of 1933 and the Securities Exchange Act of1934 (see CEA section 1a(47)(B)(iii), 7 U.S.C.1a(47)(B)(iii)) and foreign currency options enteredinto on a national securities exchange registeredpursuant to section 6(a) of the Securities ExchangeAct of 1934 (see CEA section 1a(47)(B)(iv), 7 U.S.C.1a(47)(B)(iv)). Note also that the Commissionsregulations define a commodity option transactionor commodity option as any transaction oragreement in interstate commerce which is or isheld out to be of the character of, or is commonlyknown to the trade as, an option, privilege,indemnity, bid, offer, call, put, advanceguaranty or decline guaranty. 17 CFR 1.3(hh).

For purposes of this release, the Commission usesthe term commodity options to apply solely tocommodity options not excluded from the swapdefinition set forth in CEA section 1a(47)(A), 7U.S.C. 1a(47)(A). As will be discussed in greaterdetail below, the Commission is undertaking adefinitions rulemaking in conjunction with theSecurities and Exchange Commission (SEC) tofurther define, among other things, the termswap. See Further Definition of Swap,Security-Based Swap, and Security-Based SwapAgreement; Mixed Swaps; Security-Based SwapAgreement Recordkeeping, 76 FR 29818, May 23,2011 (Product Definitions NPRM). The final ruleand interpretations that result from the ProductDefinitions NPRM will address the determination ofwhether a commodity option or a transaction withoptionality is subject to the swap definition in thefirst instance. If a commodity option or atransaction with optionality is excluded from thescope of the swap definition, as further defined bythe Commission and the SEC, the final rule and/orinterim final rule adopted herein are not applicable.

7Commodity Options and Agricultural Swaps, 76FR 6095, Feb. 3, 2011. Note that in addition toproposed commodity options rules, the NPRM alsoincluded proposed rules for agricultural swaps. Theagricultural swaps rules were adopted by theCommission via a final rulemaking published onAugust 10, 2011 and are not addressed herein. SeeAgricultural Swaps, 76 FR 49291, Aug. 10, 2011(Final Agricultural Swaps Rules).

8See note 6, above.

9See CEA section 4c(b), 7 U.S.C. 6c(b).10Public Law 93463, October 23, 1974.1117 CFR part 32.1217 CFR part 33.1317 CFR part 35. CEA section 4c(b) was cited as

one of the authorizing statutory provisions fororiginal part 35, entitled Exemption of SwapAgreements. See Exemption of Swap Agreements,58 FR 5587, at 5589, Jan. 22, 1993 (noting that: Inenacting this exemptive rule, the Commission is

Continued

(Dodd-Frank Act).2 Title VII of theDodd-Frank Act 3 amended theCommodity Exchange Act (CEA orAct)4 to establish a comprehensivenew regulatory framework for swapsand security-based swaps. Thelegislation was enacted to reduce risk,increase transparency, and promotemarket integrity within the financial

system by, among other things: (1)Providing for the registration andcomprehensive regulation of swapdealers (SDs) and major swapparticipants (MSPs); (2) imposingclearing and trade executionrequirements on standardized derivativeproducts; (3) creating robustrecordkeeping and real-time reportingregimes; and (4) enhancing theCommissions rulemaking andenforcement authorities with respect to,among others, all registered entities andintermediaries subject to theCommissions oversight.

B. Notice of Proposed RulemakingFebruary 3, 2011; Final Rule andInterim Final Rule

Section 721 of the Dodd-Frank Actadded new section 1a(47) to the CEA,defining swap to include not onlyany agreement, contract, or transactioncommonly known as, among otherthings, a commodity swap, 5but also[an] option of any kind that is for thepurchase or sale, or based on the value,of 1 or more * * * commodities* * *. 6 As a result of the Dodd-Frank

changes, on February 3, 2011, theCommission published in the FederalRegister a notice of proposedrulemaking (NPRM) that includedproposed regulations for commodityoptions.7 This final rule and interimfinal rule relates to the commodityoptions proposal in the NPRM. Inparticular, the final rule issued herein

adopts the Commissions proposal togenerally permit market participants totrade commodity options, which arestatutorily defined as swaps,8 subject tothe same rules applicable to every otherswap. The interim final rule adoptedherein includes a trade optionexemption for physically deliveredcommodity options purchased bycommercial users of the commoditiesunderlying the options, subject tocertain conditions. This final rule andinterim final rule also renumbers thecommodity options rules, as comparedto the proposal in the NPRM, and

deletes a provision from the proposedrules that the Commission hasdetermined is no longer relevant.

As noted above, because the Dodd-Frank Act definition of swap includescommodity options, the NPRMproposed provisions that wouldsubstantially amend the Commissionsregulations regarding such commodityoption transactions. The proposed rulesfor commodity options, includingproposed amendments to parts 3, 32,and 33, generally included provisionsthat would have subjected allcommodity options that are swaps to thesame rules applicable to any other swap.

After thoroughly reviewing the

comments submitted in response to theNPRM, the Commission has determinedto issue the commodity options rulesproposed in the NPRM as final rules,with certain non-substantiveamendments, including the deletion ofa prompt execution requirement andother requirements that are no longerrelevant, as well as minor formatting

updates (e.g., renumbering). In addition,and in response to the commenters, thisfinal rulemaking also includes aninterim final rule relating to tradeoptions, as discussed in detail below.

II. Commodity Options Background

A. Commissions Plenary StatutoryAuthority Over Commodity Options

The CEA provides:

No person shall offer to enter into, enterinto or confirm the execution of, anytransaction involving any commodityregulated under this chapter which is of thecharacter of, or is commonly known to the

trade as, an option, privilege,indemnity, bid, offer, put, call,advance guaranty, or decline guaranty,contrary to any rule, regulation, or order ofthe Commission prohibiting any suchtransaction or allowing any such transactionunder such terms and conditions as theCommission shall prescribe. Any such order,rule, or regulation may be made only afternotice and opportunity for hearing, and theCommission may set different terms andconditions for different markets.9

Through this provision, Congress hasgiven the Commission jurisdiction andplenary rulemaking authority over allcommodity option transactions.Notably, while the Dodd-Frank Actincluded numerous amendments to theCEA, the plenary options authorityprovision in CEA section 4c(b) was notamended or otherwise altered by theDodd-Frank Act. Rather, CEA section4c(b) has been in the Act insubstantially the same form since it wasadded by the Commodity FuturesTrading Commission Act of 1974.10 TheCommission has primarily used itsoptions authority to promulgate thecommodity options rules in parts 32(Regulation of Commodity OptionTransactions)11 and 33 (Regulation ofDomestic Exchange-Traded Commodity

Option Transactions) 12 of the existingregulations, as well as to support theadoption of the swaps rules in part 35.13

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also acting under its plenary authority undersection 4c(b) of the Act with respect to swapagreements that may be regarded as commodityoptions.). In addition, when the Commissionrecently repealed original part 35 and replaced itwith new part 35, entitled Agricultural Swaps,CEA section 4c(b) was again cited as one of theauthorizing statutory provisions. See FinalAgricultural Swaps Rules, 76 FR at 4929549296,n.36, Aug. 10, 2011 (The Commission is clarifyingnow that the new part 35, which will apply onlyto swaps in agricultural commodities, is similarlyadopted pursuant to the authorities found in CEAsections 4(c) and 4c(b).).

14See note 6, above.15Those existing rules encompassed primarily

parts 32 and 33, but also original part 35, whichwas a general swap exemption applicable to, amongother things, commodity options that did notqualify for the trade option exemption.

16 In some cases, the pre Dodd-Frank commodityoptions rules are inconsistent with certain Dodd-Frank Act provisions, such as the lack of arequirement in pre Dodd-Frank 32.4 (17 CFR 32.4)that counterparties to trade options be eligiblecontract participants (ECPs). In contrast, section2(e) of the CEA, 7 U.S.C. 2(e), as amended by theDodd-Frank Act, requires that counterparties to allswaps not conducted on or subject to the rules ofa designated contract market be ECPs.

17See NPRM, 76 FR 6095, at 60976098; 61016103, Feb. 3, 2011.

18The Commissions regulations are set forth intitle 17 of the CFR.

19See NPRM, 76 FR at 6103, Feb. 3, 2011.

20See section 723(c)(3) of the Dodd-Frank Act. Asexplained in note 7, above, the proposals in theNPRM related to part 35 and agricultural swapshave already been adopted by the Commission asfinal rules.

21See note 6, above.

22The public comment file for the NPRM isavailable at: http://comments.cftc.gov/PublicComments/CommentList.aspx?id=968.Thiscomment summary references each of thecomments that substantively addressed thecommodity options proposal in the NPRM, whethersubmitted in response to the original NPRM, inresponse to the Commissions general reopening ofthe comment period for multiple Dodd-Frank ruleproposals (See Reopening and Extension ofComment Periods for Rulemakings Implementingthe Dodd-Frank Wall Street Reform and ConsumerProtection Act, 76 FR 25274, May 4, 2011 (Dodd-Frank General Reopening)), or in response to thejoint CFTC and SEC Product Definitions NPRM.Note that none of the comments submitted in

response to Dodd-Frank General Reopeningspecifically addressed the commodity optionsproposal in the NPRM, and so they are notdiscussed in detail herein. In addition, certaincomments submitted on this rulemaking may alsobe addressed by the final rule implementing theproposals in the Product Definitions NPRM.Finally, the public comment file for the NPRM alsoincludes multiple comments that did not directlyaddress the commodity options proposal (forexample, see the comments from Majed El Zein, B.J.DMilli, Maryknoll Office for Global Concerns,Maryknoll Fathers and Brothers, J.C. Hoyt, and JonPike), other comments that only addressed theproposed agricultural swaps rules, and four recordsof meetings or communications betweenCommission staff and interested industry groups.

B. The NPRM Proposed an Overhaul ofExisting Commodity OptionsRegulations

As explained in the introduction, theDodd-Frank Act includes a definition ofswap that encompasses commodityoptions.14 The Commission proposedthe commodity options rules in theNPRM to address the fact that theexisting rules applicable to commodityoptions 15 pre-date the Dodd-Frank Actprovisions applicable to all other swapsand, therefore, do not consider orincorporate such provisions.16Therefore, the rules in the NPRM wouldhave amended part 32 to essentiallypermit commodity options to tradesubject to the same rules applicable toany other swap. The NPRM contains adetailed description of the historicaldevelopment of part 32 and theproposed changes.17 The NPRM alsoincludes proposed updates to part 33,which currently applies to any option

traded on a designated contract market(DCM) (whether an option on a futureor an option on a physical). In order toplace all options that are swaps undera single part of title 17 of the Code ofFederal Regulations (CFR),18 theNPRM proposed to remove from part 33any reference to an option on aphysical,19 leaving part 33 applicableonly to exchange-traded options onfutures, and allowing part 32 to serve asthe sole relevant regulation for all othercommodity options (including bothexchange-traded options on physicalcommodities and all off-exchange

commodity options). In addition, theNPRM proposed repealing the swapexemption in original part 35 andreplacing it with rules for agriculturalswaps pursuant to Dodd-Franksmandate that agricultural swaps only bepermitted pursuant to rules set by theCommission.20

Under the NPRM, proposed new part

32 would have governed all commodityoptions that fall under the Dodd-Frankswap definition 21by permitting suchcommodity options to be transactedsubject to the same laws and rulesapplicable to any other swapwithoutdistinguishing between trade optionsand non-trade options. An additionalelement of new part 32, as proposed inthe NRPM, was the elimination of thehistorical distinction between thetreatment of options on the enumeratedagricultural commodities and optionson all other commodities. As proposedin the NPRM, new part 32 would treat

options on both enumerated and non-enumerated agricultural commoditiesthe same as all other commodityoptions. Finally, the NPRM included, atproposed 32.5, a grandfather clauseproviding that [n]othing contained inthis part shall be construed to affect anylawful activities prior to the effectivedate of this part. That grandfatherprovision is retained unaltered in thisfinal rule.

III. Comments on the CommodityOptions Proposal in the NPRM

A. Request for Comment on the NPRM

In the NPRM, the Commissionrequested specific input on thefollowing questions related to thecommodity options proposal:

Generally, will the rule changes andamendments proposed herein providean appropriate regulatory framework forthe transacting of trade options on allcommodities?

Regarding the proposed revisions topart 32, and specifically the revised 32.4 trade option exemption, will suchrevisions significantly affect hedgingopportunities available to currentlyactive users of the trade options market?In other words, is there any reason notto revise 32.4 as proposed? Inparticular, are there persons who offeror purchase trade options on non-enumerated agricultural commodities(e.g., coffee, sugar, cocoa) under current 32.4 who would not qualify as ECPsand would therefore be ineligible to

participate in such options underrevised 32.4? If so, should suchparticipants be excepted from thegeneral requirement that all swapsparticipants must be ECPs unless thetransaction takes place on a DCM?

Regarding the proposed withdrawalof 32.12 (the dealer option provision)in its entirety, would such action (in

conjunction with the adoption of thenew rules proposed herein) prejudice orotherwise harm any person, group ofpersons, or class of transactions? Inother words, is there any reason not towithdraw 32.12 as proposed?

Similarly, and regarding theproposed withdrawal of 32.13 (theagricultural trade option provision) inits entirety, would such action (inconjunction with the adoption of thenew rules proposed herein) prejudice orotherwise harm any person, group ofpersons, or class of transactions? Inother words, is there any reason not towithdraw 32.13 as proposed?

Do the proposals as they relate topart 33 appropriately limit the scope ofpart 33 to DCM-traded options onfutures, leaving DCM-traded options onphysical commodities subject to part32?

Do the proposals outlined hereinomit or fail to appropriately considerany other areas of concern regardingoptions in any commodity?

B. Summary of Comments on the NPRM

1. General Overview

Approximately 39 comment letterswere submitted that substantively

addressed the NPRM,22 representing a

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23See Product Definitions NPRM, 76 FR 29818,May 23, 2011. The Commission notes that, whereapplicable, the definitions-based comments are alsobeing considered in conjunction with its effort,jointly with the SEC, to further define certainproducts, including the term swap, pursuant to 712(d) of the Dodd-Frank Act.

24As discussed below, the NGSA & NCGA lettersupported, in the alternative, multiple differentapproaches to their end goal of exempting orexcluding physically settled commodity optionsfrom swap regulation.

broad range of interests, includingagricultural producers, merchants, SDs,commodity funds, futures industryorganizations, academics and thinktanks, a U.S. government agency, andprivate individuals. Twenty-onedifferent commenters, through variousletters, specifically addressed thecommodity options proposal.Commodity options comments on theNPRM were filed by entities including:The Financial Services Roundtable(FSR); CME Group, Inc. (CMEGroup or CME); Futures IndustryAssociation and International Swapsand Derivatives Association (FIA &ISDA); Edison Electric Institute andElectric Power Supply Association(EIAEPSA); National Grain and FeedAssociation (NGFA); staff of theFederal Energy Regulatory Commission(FERC Staff); American Public GasAssociation (APGA); Air Transport

Association of America (ATA);Amcot; Coalition of Physical EnergyCompanies (COPE); Gavilon Group,LLC (Gavilon), which submitted twoletters; a joint letter from National RuralElectric Cooperative Association,American Public Power Association,and Large Public Power Council(together, the Power Coalition);Working Group of Commercial EnergyFirms (Energy Working Group);Commodity Markets Council (CMC);Hess Corporation (Hess); acommodity options and agriculturalswaps working group that includes

Barclays Capital, Citigroup, CreditSuisse Securities (USA) LLC, JPMorganChase & Co., Morgan Stanley, and WellsFargo & Company (together,Commodity Options and AgriculturalSwaps Working Group); and AmericanGas Association (AGA). Commodityoptions comments filed on the ProductDefinitions NPRM included a joint letterfrom Natural Gas Supply Associationand National Corn Growers Association(NGSA & NCGA); a second letter fromCOPE; a letter from Just Energy Group(Just Energy); a letter from AmericanPetroleum Institute (API); a secondletter from the Energy Working Group;a letter from BG Americas & Global LNG(BGA); and a second letter from thePower Coalition.

2. Comments on the CommodityOptions Proposal

The commodity options commentsgenerally focused on the followingsubstantive areas as they related to thecommodity options proposal in theNPRM.

a. Whether the Definition of SwapIncludes Commodity Options

Multiple commenters expressed theopinion that treating options as swaps,as set forth in the NPRM, was prematureand should await the Commissionsjoint rulemaking with the SEC on thefurther definition of a swap.23 Inparticular, FIAISDA expressed theopinion that the definitions rulemakingis the proper place to address whetherphysical commodity options of anykind, including agricultural commodityoptions, should be treated as swapsand thus urged the Commission to deferthe commodity options rulemaking untilsuch time as it issues a final rulemakingfurther defining a swap. See FIA & ISDAat 4. Similar sentiments were expressed

by NextEra, EIAEPSA, the PowerCoalition, and the Energy WorkingGroup. For example:

As a threshold matter, the Proposed Ruleis premature insofar as it would treat optionson physical commodities as swaps before theCommission has even proposed thedefinition of what constitutes a swappursuant to Section 712(d) of the Dodd-FrankAct . * * * To avoid inconsistent outcomesand ensure consideration of an integratedand complete record on transactions to beregulated as swaps, the Commission shouldstay this proceeding insofar as it woulddefine commodity options as swaps.

EIAEPSA at 12.

[T]he Working Group respectfully requeststhat the Commission stay the instantproceeding until such time that themandatory final rule further defining theterm swap set forth in new Section 1a(47)of the [CEA] is jointly issued by theCommission and the [SEC]. Until the fullscope and application of the definition ofswap is known and understood, theWorking Group is unable to fully evaluate thepotential implications of the Proposed Rule,or comment meaningfully on how theproposed regulation of Physical Optionscould ultimately affect its members.

Energy Working Group at 2.Beyond the requests to delay the

commodity options final rulemaking,some commenters disagreed with theinterpretation that the Dodd-Frank swapdefinition was intended to include allcommodity options. The followingcomments illustrate this view:

Simply put, a commodity option is not aswap * * * COPE requests that theCommission find that, unlike swaptions,commodity options are not swaps.

COPE at 45.

The text and structure of the Dodd-FrankAct indicates that Congress only intended toinclude options that require financialsettlement and other financial products inthe definition of swap.

Gavilon 4/4/11 letter at 4.

Physical Options meet the criteria of theso-called forward contract exclusion undersection 1a(47)(B)(ii) of the CEA and therefore

must be excluded from the definition of aswap under section 1a(47).

NGSA & NCGA letter at 3.24 See also,letters from AGA and API.

The Energy Working Groupacknowledged that the swap definitionlikely included options, but argued thatthe Commission should take action toavoid that result:

Although Congress included PhysicalOptions in the definition of swap, it alsovested the Commission with the statutoryauthority [referencing CEA section 4c(b)] toregulate options, including Physical Options,in a manner different than swaps. The

Working Groups members consider PhysicalOptions as distinct from other swaps, andmore akin to physically-settled forwardcontracts, and believe that there aresubstantive policy reasons to treat these typesof transactions in a similar manner.Regulating Physical Options as swaps underTitle VII of the Act would have a substantialnegative effect on not only the market forsuch options, but also more broadly onphysical energy markets and participants insuch markets that rely on physical energycommodities during their normal course of

business.

Energy Working Group at 4.

The Energy Working Group letter

went on to provide several examples oftransactions that energy marketparticipants do not historically consideroptions, but nonetheless contain anelement of optionality * * * and shouldnot be regulated as swaps. Their letterdescribed contracts called daily naturalgas calls, wholesale full requirementscontracts for power, tolling agreementsin organized wholesale electricitymarkets, physical daily heat rate calloptions, and capacity contracts. SeeEnergy Working Group at Exhibit A.APGA and ATA also requested that theCommission clarify that certain variableamount delivery contracts that arecommon in the energy sector beexcluded from the definition of a swap.CMC requested that the Commissionclarify that certain other types oftransactions fall within the definition ofan excluded forward contract ratherthan the definition of a swap. CMCspecifically commented that cash



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25After CFTC staff reviewed the options toredeem with both USDA staff membersresponsible for managing the cotton marketing loanprogram and industry representatives from Amcot(an association of US cotton marketingcooperatives), the Commission has concluded thatthe options to redeem under USDAs cottonmarketing loan program constitute the producerscontractual right to repay the marketing loan andredeem the collateral (the cotton), to sell in theopen market. As such, the option to redeemcotton under USDA Commodity CreditCorporations marketing loan program is a standardloan repayment term and does not constitute acommodity option within the meaning of the CEAand CFTC regulations.

26See Product Definition NPRM, 76 FR at 2982729830, May 23, 2011.

27See note 6, above.28Current 17 CFR 32.4(a) provides: * * * the

[prohibition on off-exchange commodity optionscontained in 17 CFR 32.11] shall not apply to acommodity option offered by a person which hasa reasonable basis to believe that the option isoffered to a producer, processor, or commercial userof, or a merchant handling, the commodity whichis the subject of the commodity option transaction,or the products or by-products thereof, and thatsuch producer, processor, commercial user ormerchant is offered or enters into the commodityoption transaction solely for purposes related to itsbusiness as such.

29See: Further Definition of Swap Dealer,Security-Based Swap Dealer, Major SwapParticipant, Major Security-Based Swap

forward contracts with embeddedoptions and certain cash transaction

book-outs should not be treated asswaps. CMC at 1. Amcot requestedclarification that equity trades oroptions to redeem cotton from theU.S. Department of AgriculturesCommodity Credit Corporationmarketing loan program would not be

considered swaps.25Regarding those comments describing

specific transactions, and in particularCMCs comments, the Commissionnotes that the proposed furtherdefinition of swap included adiscussion of the applicability of theswap definition to both forwards withembedded options and book-outtransactions.26 The Commission furthernotes that, in response to both theNPRM and the Product DefinitionsNPRM, several comments weresubmitted regarding volumetricoptions in particular (i.e., optionality

in a contract settling by physicaldelivery that is used to meet varyingdemand for a commodity). The finalfurther definition of the term swap to beissued by the Commission and the SECwill address the applicability of theswap definition (and thus, theapplicability of this final rule andinterim final rule) to such volumetricoptions.27

b. Trade Option Exemption

While the commodity options rulesproposed in the NPRM would haveremoved the trade option exemptionthat is currently at 17 CFR 32.4,28 the

vast majority of commenters whoexpressed an opinion on the topic

supported retaining a trade optionexemption, in one form or another, foroptions that require physical delivery ifexercised, and were opposed to treatingsuch options as swaps subject to allapplicable Dodd-Frank swaps regulatoryrequirements. The current trade optionexemption is an exemption from theexisting prohibition against off-

exchange commodity optiontransactions in 17 CFR 32.11. Incontrast, the commenters requested atrade option exemption for the purposeof being exempt from (1) the swapdefinition, and/or (2) any final rules thatwould treat commodity options thesame as any other swap. The followingstatement from Hess Corporationillustrates this view that certain optionsshould not be regulated as swaps:

Treating all options, financial andphysical, as swaps will result in significantunintended consequences for Hess and othercommercial entities that rely on physical

options to manage their business risk. Hessdoes not believe Congress intended such aresult. On the contrary, Hess believes that theDodd-Frank Act defines swap in a mannerthat plainly distinguishes between financialand physical transactions. Accordingly, Hessurges the Commission to regulate options ina similar manner by excluding options thatare intended to be physically settled onceexercised from the definition of swap.

Hess Corporation at 1. Similarsentiments were expressed by the PowerCoalition, the Energy Working Group,Gavilon, APGA, ATA, NGSA & NCGA,AGA, API, and COPE. For example:

If the Commission proposes rules todiscard the trade option exemption, itshould concurrently replace it with a tradeoption exemption for nonfinancialcommodities to the defined term swap.

Power Coalition at 15.

Gavilon urges the Commission to issue anorder pursuant to CEA Section 4c(b) thatallows commercial entities to enter intoPhysical Options subject only to conditionsthat are comparable to the requirements incurrent Part 32.4.

Gavilon April 4, 2011 letter at 67.

[R]egulation of Physical Options as swapswould cause serious harm to the natural gas

and other physical commodity markets,without providing significant benefits * * *.For these reasons, the Commission mustrecognize, in its final rule, either in thedefinition of a swap or by preserving thetrade option exemption, that PhysicalOptions are excluded, or are eligible forexemption, from regulation as swaps.

NGSA & NCGA at 45.

[I]f the Commission determines to moveforward with the [Options NPRM], it mustmake clear that no physically settledagreements are covered [or] included in anyrule pertaining to swaps.

COPE at 5. CME expressed the opinionthat [We believe that] Congress did notnecessarily intend for the Commissionto treat all options on commodities asswaps * * * but we have no objectionto this outcome. CME at 3.

c. Eligible Contract Participants andTrade Options

The energy industry commentersexpressed concerns regarding the factthat treating commodity options asswaps would require all trade optionscounterparties to be ECPsbecausetrade options are typically bilateral, off-exchange transactions, and CEA section2(e) permits only ECPs to transact swapsother than on or subject to the rules ofa DCM. The commenters noted thatthere are many non-ECP marketparticipants who currently rely on thetrade option exemption for optiontransactions in a wide range ofcommodities. For example:

If the Commission eliminates the ability ofthe NFP Electric End Users to engage inenergy and energy-related commodityoptions, or conditions the use of such tradeoptions on the NFP Electric End Usersqualifying as eligible contract participants, itwill have a significant and detrimental effecton the NFP Electric End Users ability tohedge their commercial risk in a costeffective way.


The Commodity Options NOPR states that,based on its review [of the history of theCommissions development of commodityoptions regulation], the Commission hasdetermined that there would be little

practical effect and no detrimentalconsequences in adopting the proposedrevisions to the existing commodity optionsregime in part 32. [citing NPRM at 76 FR6101]. The Coalition disagrees strongly withthe Commissions determination * * *. Weconsider the Commissions Proposed Rule to

be highly detrimental to the NFP Electric EndUsers ability to provide affordable electricenergy to American businesses andconsumers.


Since, in general, market participants mustmeet certain net worth thresholds to qualifyas an eligible contract participant [footnoteomitted] and many Physical Options used by

small end users are customized or illiquidand thus not traded on exchanges, the abilityof small end users to transact in PhysicalOptions would be limited to on-exchangecontracts that do not exist or do not matchtheir needs.

NGSA & NCGA at 4.Similarly, the FSR pointed out, in a

comment primarily addressing theproposed definition of ECP,29 that there



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Participant and Eligible Contract Participant, 75FR 80174, Dec. 21, 2010 (joint rulemaking withSEC; the comment period originally closed onFebruary 22, 2011, and was extended to June 3,2011).

30See In re Osler, CFTC Docket No. 005, 2001WL 138975 (CFTC Feb. 15, 2001) (finding optionsfraud in violation of regulations 32.9 and 33.10; Aperson acts with scienter if he acts intentionally, orwith reckless disregard for his duties under theAct. (citing Hammondv. Smith Barney HarrisUpham & Co., [19871990 Transfer Binder] Comm.Fut. L. Rep. (CCH) 24,617 at 36,659 (CFTC March1, 1990)).

31See Part 30Fraud in Connection withCommodity Transactions, 40 FR 26504, at 26505and note 2, June 24, 1975 (adopting final rules inconnection with commodity options and certainother transactions; by adopting rules patterned byantifraud provisions that Congress has approved aspart of the statutory scheme of the CommodityExchange Act [in section 4b], the Commission canfairly expect that the courts will adopt a consistentand uniform approach to the prevention offraudulent and deceptive acts and practices underthe Commodity Exchange Act).

32See Suspension of the Offer and Sale ofCommodity Options, 43 FR 16153, Apr. 17, 1978.

33For the purposes of part 33, as amended herein,the Commission clarifies that an option on a futurescontract is an option that, upon exercise, results ina futures position.

34See CEA section 4c(b).

may be issues with the fact that theproposal in the NPRM to modify thetrade option exemption would eliminatethe availability of the trade optionexemption for non-ECPs. See FSR at 26,n.18.

d. FERC-Regulated Transactions

FERC Staff noted that depending onhow broadly the term swap isconstrued, CFTC regulation of swapscould lead to inconsistent regulation ofparticipants and transactions subject toFERC jurisdiction, and in particular theorganized electricity markets. FERCStaff at 1. The energy and electricitycommenters also expressed concernsabout the jurisdictional overlap. Onecommenter specifically noted that,[Physical Options] in the natural gasmarket are already subject to certainregulatory oversight by [FERC] and statepublic utility commissions with respectto price, prudence, and manipulation.

NGSA & NCGA at 5.

e. Deleting the Dealer Option Provisions

FIAISDA supported the proposedwithdrawal of regulation 32.12(pertaining to the grandfathering ofcertain dealer options). In particular,FIAISDA concurred with theCommissions assertion that the dealeroption business has not existed sincethe early 1990s and thus there is nolonger a need for this grandfatheringprovision. See FIAISDA at 6.

f. Deleting the Agricultural Trade

Option ProvisionsThere was only one comment related

to eliminating the Agricultural TradeOption (ATO) Merchant provisions inpart 32. Specifically, NGFA supportedeliminating the provisions, observing:

[NGFA] long has believed that an effectiveATO regulatory structure could benefitagricultural producers and the agribusinesseswith which they work to develop marketingstrategies and market their crops. However,the rules in place have been unwieldy and,consequently, the ATO merchant registrationregime has been largely unused * * *. TheNGFA believes the redefinition of ATOs as

swaps, subject to conditions under Dodd-Frank (notably the Eligible ContractParticipant rules), will result in enhanceddevelopment and use of products thatformerly would have been categorized asagricultural trade options and a broader rangeof risk management tools.

NGFA at 2.

g. Options Fraud Provisions

The proposed rules for commodityoptions in the NPRM would haveretained the existing enforcementprovisions in part 32, i.e., 32.8(Unlawful representations; executionof orders) and 32.9 (Fraud inconnection with commodity option

transactions). EEIEPSA requested amodification of 32.9, regarding fraudin connection with commodity optiontransactions, to include a requisiteintent requirement. EEIEPSA at 11.

As noted above, in the final ruleissued herein, the Commission isretaining 32.9 (Fraud in connectionwith commodity option transactions),which has been renumbered as 32.4,

but not otherwise changed. TheCommission is not including therequisite intent standard requested byEEIEPSA, because it would narrow thescienter standard for fraud established

by Commission precedent, which isintentionally or with recklessdisregard.30 Moreover, in firstpromulgating its option fraudregulation, the Commission did not usethe concept of willful behavior in theregulation text out of concern regardingthe potential for courts to take arestrictive view of the Commissionsantifraud authority.31 The final ruledoes not retain 32.8 (Unlawfulrepresentations; execution of orders).That provision was originally intendedto apply to the retail over-the-counter(OTC) options market. Such retail

OTC options transactions have beenprohibited since the adoption of thegeneral options prohibition at 32.11 in1978.32 Thus 32.8 is no longernecessary, particularly since theviolations listed in 32.8 are eitherirrelevant (in that they apply tointermediated transactions, whereastrade options are generally principal-to-

principal transactions) or are subsumedby the general antifraud rule, or both.

IV. Explanation of the Final Rule andInterim Final Rule for CommodityOptions

A. Introduction

After considering the complete record

in this matter, including all commentsto the NPRM, the Commission is nowadopting and issuing this final rule andinterim final rule for commodityoptions. Broadly speaking, the final rulewould implement the commodityoption rules as proposed in the NPRM,whereby commodity options arepermitted subject to the same rules asall other swaps, with additional minorrevisions to part 32. In addition, theinterim final rule includes a new tradeoption exemption from certain swapsregulations.

B. Sections Unchanged From the NPRM

The final rule as it relates to revisionsto part 3 and to part 33 of theCommissions regulations is the same asin the NPRM.33

C. New Part 32

1. Final Rule

The Commission is publishing thisfinal rule in order to provide increasedregulatory certainty to marketparticipants transacting commodityoptions, along with an interim final ruleto permit additional public comment ona new trade option exemption. The finalrule issued herein generally adopts thecommodity options proposal as set forthin the NPRM. That is, under this finalrule, commodity options will bepermitted to transact subject to the samerules applicable to any other swap. Thisgeneral authorization is necessary

because the Commissions plenaryrulemaking authority over commodityoptions provides that: [n]o person shalloffer to enter into, enter into or confirmthe execution of, any transactioninvolving any commodity regulatedunder this chapter which is [acommodity option transaction], contraryto any rule, regulation, or order of the

Commission prohibiting any suchtransaction or allowing any suchtransaction under such terms andconditions as the Commission shallprescribe.34 By adopting this final rule,the Commission provides the requiredgeneral authorization for commodityoptions that are subject to the swap



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35See note 6, above.36This provision is the same antifraud language

used in part 32 prior to the adoption of this finalrule and interim final rule.

37The offeror, sometimes also called the grantor,is the seller of a commodity option.

38The offeree, sometimes also called the grantee,is the buyer of a commodity option.

39For example: Trade options would notcontribute to, or be a factor in, the determinationof whether a market participant is an SD or MSP;trade options would be exempt from the rules onmandatory clearing; and trade options would be

exempt from the rules related to real-time reportingof swaps transactions. The provisions identified inthis footnote are not intended to constitute anexclusive or exhaustive list of the swapsrequirements from which trade options are exempt.

40The existing trade option exemption, which theinterim final rule trade option exemption wouldreplace, includes no standards or requirements foroption offerors.

41 If not specified by law (see, e.g., CEA section2(c)(2)(C)(i)(II)(bb)(AA), 7 U.S.C.2(c)(2)(C)(i)(II)(bb)(AA)) or cash market practice, tobe a spot transaction, rather than a forwardtransaction, delivery must occur within areasonable time [after the contract is executed] inaccordance with prevailing cash market practice.Regulation of Noncompetitive TransactionsExecuted on or Subject to the Rules of a ContractMarket, 63 FR 3708, 3711, Jan. 26, 1998 (conceptrelease). Delivery under a spot contract usuallyoccurs within a few days of the trade date. SeeCFTC Interpretative Letter 9873, available athttp://www.cftc.gov/ucm/groups/public/@lrlettergeneral/documents/letter/98-73.pdf(October 1998), stating that [i]n a spot transaction,immediate delivery of the product and immediatepayment for the products are expected on or within

a few days of the trade date and citing CFTCInterpretative Letter No. 9701, 199698 TransferBinder Comm. Fut. L. Rep. (CCH) 26,937 at p.44,520 (December 12, 1996), in turn citing TimothyJ. Snider, Regulation of the Commodities Futuresand Options Markets, Vol. 1, 9.01 (2ed. 1995).However, under cash market practices in somemarkets, delivery can occur more than a few daysafter the trade date. See CFTC, Division of Tradeand Markets: Report on Exchange of Futures forPhysicals 51, 65, 124147 (1987) (noting that underthen-prevailing cash market practices, transactionsin crude oil and sugar called for delivery in 30 and75 days, respectively, while foreign currency spottransactions settled in 2 days).

42See Product Definition NPRM, 76 FR at 2982729830, May 23, 2011.

definition,35 and removes anyuncertainty as to whether CEA section4c(b) would otherwise prohibit suchcommodity options.

The remainder of the final rule (i.e.,everything else in new part 32) largelytracks the commodity options languageproposed in the NPRM, with a fewminor revisions, including formatting

and renumbering changes. For example,the final rule renumbers the sections ofnew part 32 to delete (rather thanreserve, as had been proposed in theNPRM) the provisions in existing part32 that are being deleted. A seconddifference is that the proposal in theNRPM would have retained existing 32.8, entitled Unlawfulrepresentations; execution of orders,while this final rule deletes thatprovision, as discussed above.Moreover, this commodity options finalrule retains the strong options antifraudlanguage that was proposed in the

NPRM at 32.9 (now renumbered as 32.4).36 In addition, the generalcommodity options authorization,proposed as 32.4 and renumberedherein as 32.2, has been reformattedand updated to include a reference tothe interim final rule, i.e., the new 32.3trade option exemption, which isdescribed in detail, below.

2. Interim Final Rule; Trade OptionExemption

a. Exemption From General SwapsRules

The interim final rule incorporates a

new 32.3 into part 32, providing anexemption from certain swapsregulations for trade options on exemptand agricultural commodities as

between certain commercial andsophisticated counterparties. This tradeoption exemption will operate as analternative to the general commodityoptions authorization in 32.2.Pursuant to the trade option exemptionissued as an interim final rule herein, ifthe offeror,37 the offeree,38 and thecharacteristics of the option transactionmeet the requirements of the tradeoption exemption, such option

transaction will be exempt from thegeneral Dodd-Frank swaps regime,39

subject to specified ongoing conditionsand compliance requirements discussed

below, as applicable.

b. Offeror

Under the terms of the interim finalrule, the offeror must fall into one oftwo categories. The offeror may be anECP, which assures that option grantors

will have some minimal level offinancial resources and sophistication inorder to minimize the risk that a sellerwould not be able to perform itsobligations under a commodityoption.40 Alternatively, the offeror maybe a producer, processor, or commercialuser of, or a merchant handling thecommodity which is the subject of thecommodity option transaction, or theproducts or by-products thereof, and beoffering or entering into the transactionsolely for purposes related to its

business as such. Because the tradeoption exemption generally is intended

to permit parties to hedge or otherwiseenter into transactions for commercialpurposes, and because certaincommercial parties prefer to transactprimarily with other commercialparties, the trade option exemption setforth in the interim final rulespecifically authorizes commercialswho may not be ECPs to act as tradeoption offerors. In either instance, thetrade option offeror may only offer orenter into the contract if it reasonably

believes, consistent with the standard inthe existing trade option exemption,that the offeree meets the offereerequirements specified below.

c. Offeree

The offeree must meet the same basicrequirements as under the existing tradeoption exemption. That is, the option

buyer must be a producer, processor, orcommercial user of, or a merchanthandling the commodity which is thesubject of the commodity optiontransaction, or the products or by-products thereof, and be entering intothe transaction solely for purposesrelated to its business as such. Note thatthere is no ECP requirement or otherfinancial eligibility standard for the

offeree. The purpose of requiring thetrade option buyer to be a commercial,and of not imposing an ECP or otherfinancial eligibility standard, is toensure that hedging opportunities for

commercial entities, for physicallydelivered transactions used for purposesrelated to their business as such, remainavailable regardless of the size orsophistication of the commercial entity.

d. Physical Commodity Option

The third element of the trade optionexemption is that both parties must

intend that the commodity option bephysically settled, so that, if exercised,the option would result in the sale of anexempt or agricultural (i.e., non-financial) commodity for immediate(spot) 41 or deferred (forward) shipmentor delivery. To assist parties indetermining whether the sale of theexempt or agricultural commodity isintended to be physically settled, theCommission refers parties to theforward contract exclusion guidance asprovided in the Product DefinitionNPRM,42 or such other guidance asultimately may be adopted in the finalproduct definition rulemaking. That is,to the extent the obligations that remain(or are created) upon the exercise of acommodity option are spot transactionsor fall within the forward contractexclusion from the swap definition,such commodity option is eligible forthe trade option exemption.

e. Trade Option Exemption Conditions

While the trade option exemptionissued herein would operate as a generalexemption from the rules otherwiseapplicable to other swaps (i.e., theDodd-Frank swaps regime), the tradeoption exemption is subject to certain

http://www.cftc.gov/ucm/groups/public/@lrlettergeneral/documents/letter/98-73.pdfhttp://www.cftc.gov/ucm/groups/public/@lrlettergeneral/documents/letter/98-73.pdfhttp://www.cftc.gov/ucm/groups/public/@lrlettergeneral/documents/letter/98-73.pdf


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43The Commission recently adopted final swapdata recordkeeping rules. See Swap DataRecordkeeping and Reporting Requirements 77 FR2136, at 2198, Jan. 13, 2012.

4417 CFR 45.2(h) provides that: [a]ll recordsrequired to be kept pursuant to this section [17 CFR45.2] by any registrant or its affiliates or by any non-SD/MSP counterparty subject to the jurisdiction ofthe Commission shall be open to inspection uponrequest by any representative of the Commission,the United States Department of Justice, or the

[SEC], or by any representative of a prudentialregulator as authorized by the Commission. Copiesof all such records shall be provided, at the expenseof the entity or person required to keep the record,to any representative of the Commission uponrequest. Copies of records required to be kept byany registrant shall be provided either by electronicmeans, in hard copy, or both, as requested by theCommission, with the sole exception that copies ofrecords originally created and exclusivelymaintained in paper form may be provided in hardcopy only. Copies of records required to be kept byany non-SD/MSP counterparty subject to thejurisdiction of the Commission that is not aCommission registrant shall be provided in theform, whether electronic or paper, in which therecords are kept.

45See 17 CFR 45.8.46That is, neither counterparty to the trade option

has previously reported, as the reporting party, non-trade option swap trading activity during the twelvemonths preceding the date on which the tradeoption is entered into.

47By taking this approach, the Commissionensures that no market participant is compelled tocomply with part 45s reporting requirements basedsolely on its trade options activity.

conditions. The conditions are primarilyintended to preserve a level of marketvisibility for the Commission whilereducing the regulatory compliance

burden for market participants.

i. Recordkeeping Pursuant to Part 45

These conditions include arecordkeeping requirement for any trade

options activity, i.e., the recordkeepingrequirements of 17 CFR 45.2.43 Suchrecords must be maintained by all tradeoption participants pursuant to 45.2and made available to the Commissionas specified therein.44 Section 45.2applies different recordkeepingrequirements, depending on the natureof the counterparty. For example, if atrade option counterparty is an SD orMSP, it would be subject to theprovisions of 45.2(a). If a counterpartyis neither an SD nor an MSP, it would

be subject to the less stringentrecordkeeping requirements of 45.2(b).

This recordkeeping condition willensure that trade options marketparticipants are able to providepertinent information regarding theirtrade options activity to theCommission, if requested.

ii. Reporting Pursuant to Part 45

In addition to part 45 recordkeeping(which applies in some form to all tradeoptions and trade option participants),the interim final rule requires certaintrade options to be reported pursuant topart 45s reporting provisions. Underthe interim final rule, the determinationas to whether a trade option is required

to be reported pursuant to part 45 isbased on the parties to the trade optionand whether or not they have previouslyreported swaps pursuant to part 45.Specifically, ifany trade option involves

at least one counterparty (whether asbuyer or seller) that has (1) Becomeobligated to comply with the reportingrequirements of part 45, (2) as areporting party, (3) during the twelvemonth period preceding the date onwhich the trade option is entered into,(4) in connection with any non-tradeoption swap trading activity, then such

trade option must also be reportedpursuant to the reporting requirementsof part 45. If only one counterparty toa trade option has previously compliedwith the part 45 reporting provisions, asdescribed above, then that counterpartyshall be the part 45 reporting entity forthe trade option. If both counterpartieshave previously complied with the part45 reporting provisions, as describedabove, then the part 45 rules fordetermining the reporting party willapply.45

By applying the part 45 reportingrequirements to trade options in this

manner, the Commission will obtaingreater transparency and improvedoversight of the swaps markets, both ofwhich are primary statutory objectivesof Title VII of the Dodd-Frank Act. TheCommission believes, however, thatgreater transparency regarding the tradeoptions market must be balanced againstthe burdens of frequent and near-instantaneous reporting required underpart 45 of the Commissions regulationson counterparties who are not otherwiseobligated to report because they do nothave other reportable swap activity.Accordingly, if neither counterparty to a

trade option already is complying withthe reporting requirements of part 45 asa reporting party in connection with itsnon-trade option swap trading activitiesas described above,46 then such tradeoption is not required to be reportedpursuant to the reporting requirementsof part 45.47

iii. Annual Notice Filing Alternative toPart 45 Reporting; Form TO

To the extent that neithercounterparty to a trade option haspreviously submitted reports to an SDRas a result of its swap trading activitiesas described above, the Commission

recognizes that requiring these entitiesto report trade options to an SDR underpart 45 of the Commissions regulationssolely with respect to their trade options

activity would be costly and timeconsuming. As an alternative, theinterim final rule requires anycounterparty to an otherwise unreportedtrade option to submit an annual filingto the Commission for the purpose ofproviding notice that it has entered intoone or more unreported trade options inthe prior calendar year. Unlike with

trade options subject to the part 45reporting requirement, wherein onlyone counterparty to the trade optionreports the transaction to an SDR, thenotice filing requirement applies to bothcounterparties to an unreported tradeoption. Because the purpose of thenotice filing requirement is to identifyto the Commission those marketparticipants engaging in unreportedtrade options, the notice filingrequirement applies whether or notsuch counterparty has also been a non-reporting counterparty to a reportedtrade option in the twelve months

preceding the date on which theunreported trade option was enteredinto. Market participants will satisfy theannual notice filing requirement bycompleting and submitting a newCommission form, Form TO, by March1 following the end of any calendar yearduring which the market participantentered into one or more unreportedtrade options.

Form TO requires an unreported tradeoption counterparty to: (1) Providename and contact information, (2)identify the categories of commodities(agricultural metals, energy, or other)underlying one or more unreported

trade options which it entered intoduring the prior calendar year, and (3)for each commodity category, identifythe approximate aggregate value of theunderlying physical commodities that iteither delivered or received inconnection with the exercise ofunreported trade options during theprior calendar year. For the purposes ofitem (3), a reporting counterpartyshould not include the value ofcommodities that were the subject oftrade options that remained open at theend of the calendar year or any tradeoptions that expired unexercised during

the prior calendar year.Pursuant to the interim final rule,Form TO is an annual filingrequirement. The form must besubmitted to the Commission no laterthan March 1 for the prior calendar year.For example, if a market participantenters into one or more unreported tradeoptions between January 1, 2013 andDecember 31, 2013 (as will be discussedin the effective date and compliancedate discussion, below, the firstcalendar year for which a Form TO will

be due to the Commission is 2013), the



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48See 17 CFR 1.31(a)(2) and 17 CFR 45.2(h).

4917 CFR part 20. Note that swap large traderreporting obligations apply only to SDs and clearingmembers. Trade option sellers and buyers (unlessthey fall within one of the part 20 reporting partycategories) would not be responsible for filing largetrader reports.

5017 CFR part 151. Note that position limitsapply only to speculative positions in those

referenced contracts specified in part 151. Tradeoptions, which are commonly used as hedginginstruments or in connection with somecommercial function, would normally qualify ashedges, exempt from the speculative position limitrules.

51Swap Dealer and Major Swap ParticipantRecordkeeping and Reporting, Duties, and Conflictsof Interest Policies and Procedures; FuturesCommission Merchant and Introducing BrokerConflicts of Interest Policies and Procedures; SwapDealer, Major Swap Participant, and FuturesCommission Merchant Chief Compliance Officer, 77FR 20128, Apr. 3, 2012. Note that these part 23provisions, like the part 20 provisions, would onlyapply to certain large sophisticated entitiesin thiscase, SDs and MSPs.

5217 CFR part 180.5317 CFR 23.410.

market participant must submit acompleted Form TO to the Commissionon or before March 1, 2014. Form TO isset out in appendix A to part 32 of theCommissions regulations and will beavailable electronically on theCommissions Web site at least ninetydays before the first compliance date forfiling of that form, March 1, 2014. The

Form TO filing requirement willprovide the Commission a minimallyintrusive level of visibility into theunreported trade options market, willguide the Commissions efforts to collectadditional information through itsauthority to obtain copies of books orrecords required to be kept pursuant tothe Act 48 should market circumstancesdictate, and will enable the Commissionto determine whether thesecounterparties should be subject to morefrequent and comprehensive reportingobligations in the future.

iv. Specific Request for Comment on

Trade Option Reporting and/or NoticeFiling Requirements

The Commission is specificallyrequesting comment on including thesepart 45 recordkeeping and reportingcompliance conditions, and the FormTO filing requirement for counterpartiesto unreported trade options, inconnection with the interim final rulestrade option exemption. For example,what are the trade-offs between (1)reducing or removing the reportingrequirement and/or notice filingrequirement (and attendant costs) forsmaller end-user and commercial

entities and (2) the Commissions goalsof maintaining market visibility andeliminating incentives or opportunitiesto avoid regulation? In their comments,market participants should identifyalternatives, if any, to the part 45recordkeeping and reportingrequirements and/or the Form TO filingrequirement as applicable to tradeoptions participants. Commentersshould explain how such alternativesmay be able to provide the Commissionwith the equivalent market informationand visibility it would receive pursuantto the part 45 requirements and/or the

Form TO filing requirement, asapplicable under the interim final rule,while lowering the compliance burdenon market participants.

v. Swaps Large Trader Reporting;Position Limits

The interim final rules trade optionexemption also includes certainconditions referencing various otherswaps rules, which rules shall remainapplicable to trade options under this

interim final rule. Specifically, thefollowing conditions, as set forth ininterim final rule 32.3(c), would applyto trade options (and trade optionparticipants) to the same extent thatsuch conditions would apply to anyother swap (and swap counterparty): (1)Large trader reporting under part 20(i.e., reporting entities under part 20

SDs and clearing membersmustconsider their counterpartys tradeoption positions just as they wouldconsider any other swap position for thepurpose of determining whether aparticular counterparty has aconsolidated account with a reportableposition, as set forth therein); 49 and (2)position limits under part 151 (to theextent a trade option position wouldotherwise be subject to the positionlimit rules).50

vi. SD/MSP Conditions

In addition, 32.3(c) provides that

certain provisions of subpart F andsubpart J of part 23, relating torecordkeeping, reporting, and riskmanagement duties of SDs and MSPswould apply to trade options.51 SDs andMSPs participating in trade options willalso remain subject to CEA section 4s(e),which addresses capital and marginrequirements for SDs and MSPs. Each ofthese SD and MSP conditions simplyconfirms that an SD and/or MSP maynot avoid certain requirements orobligations by structuring its swaptransactions as trade options. SDs andMSPs may participate in trade optionswhen they meet the underlying tradeoption offeror or offeree eligibilityrequirements, as applicable. But theywill remain subject to the SD/MSPconditions identified in the interim finalrule. As with the part 20 and part 151conditions applicable to all tradeoptions and trade options participants,

the SD/MSP conditions only apply inthe context of trade options to the extentthey would otherwise apply to thetransaction as any other kind of swap(i.e., as a non-trade option).

vii. Enforcement Provisions

Finally, at 32.3(d), the interim finalrule also retains for trade options the

antifraud and anti-manipulation rulesunder part 180,52 23.410,53 the specificoptions antifraud provisions of pre-Dodd-Frank 32.9 (renumbered hereinas 32.4), and any other generalantifraud, anti-manipulation, andenforcement provisions of the CEA,including but not limited to, CEAsections 2, 4b, 4c, 4o, 4s(h)(1)(A),4s(h)(4)(A), 6, 6c, 6d, 9, and 13.

viii. General Exemptive AuthorityRetained

The trade option exemption alsocontains general exemptive languagethat would permit the Commission,upon written request or upon its ownmotion, to exempt any other person,either unconditionally or on atemporary or other conditional basis,from any provisions of part 32 (otherthan the antifraud, anti-manipulation,and enforcement rules), or from theprovisions of the Act, including anyCommission rule, regulation, or orderthereunder, otherwise applicable to anyother swap, if the Commission finds, inits discretion, that it would not becontrary to the public interest to grantsuch exemption. This supplementallanguage tracks the general exemptive

provision in the existing trade optionexemption, and it will provide theCommission with the flexibility toreceive and consider any concerns frommarket participants regarding the scopeor implementation of the interim finalrule trade option exemption.

D. Effective Date; Compliance Date

The commodity options final rule andinterim final rule issued herein shall

become effective 60 days after thepublication of this document in theFederal Register.

The compliance date for the final rule

and the interim final rule shall be 60days after the term swap is furtherdefined pursuant to section 721 of theDodd-Frank Act (i.e., 60 days after thefurther definition of swap is adopted

by the Commission and the SEC andpublished in the Federal Register).However, for the purpose of complyingwith (1) final rule 32.2(a), whichpermits entering into commodityoptions transactions in compliance with



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54See prior 17 CFR 32.4.

and subject to the provisions of the Act,including any Commission rule,regulation, or order thereunder,otherwise applicable to any other swap,and (2) the conditions and provisions ofthe interim final rule trade optionexemption under 32.3, the compliancedate for this final rule and interim finalrule shall be the compliance date

associated with any such swaps rules.That is, notwithstanding the effective orcompliance dates identified herein,commodity options market participantsneed not comply with any applicablecondition referencing a swap rule,regulation, or order, until such time asthe rule, regulation, or order isapplicable to any other swap. Inaddition, the first relevant compliancedate for the Form TO notice filingrequirement will be for the calendaryear beginning January 1, 2013. That is,counterparties to unreported tradeoptions are required to submit a Form

TO in connection with their unreportedtrade options entered into betweenJanuary 1 and December 31, 2013 on orbefore March 1, 2014. There is no FormTO filing requirement for unreportedtrade options entered into between theeffective date of this rule and December31, 2012.

V. Interim Final Rule Matters

This document implementsregulations addressing the inclusion ofcommodity options in the Dodd-FrankAct definition of swap. Section 721 ofthe Dodd-Frank Act defines the termswap to include an option of any kind

that is for the purchase or sale, or basedon the value, of one or morecommodities. The existing trade optionexemption exempts certain tradeoptions from the CEA almost entirelyand was enacted pursuant to section4c(b) of the CEA, which provides theCFTC with plenary authority to issueregulations related to commodityoptions. Such authority was notamended by the Dodd-Frank Act, andtherefore, Congress continues to vest theCommission with plenary authority overcommodity options. Prior to the Dodd-Frank Act, CFTC regulations provided

for a trade option exemption, permittingthe trading of qualifying transactionssubject only to antifraud, anti-manipulation, and enforcement rules.54As discussed above, the Dodd-Frank Actdefined commodity options as swaps.Accordingly, the CFTC proposed toamend the commodity options rulesgenerally, and to specifically withdrawthe trade option exemption, therebyproviding that commodity options couldtransact subject to the same laws, rules,

regulations, and orders otherwiseapplicable to all other swaps, consistentwith the Dodd-Frank Act. As explainedin the comment summary above, theproposal requested comment regardingtrade options and multiple commentersrequested that the CFTC retain someform of a trade option exemption,particularly for physically delivered

options. Therefore, in response tocomments, and pursuant to its plenaryauthority over commodity options, theCFTC is implementing a revised tradeoption exemption, with certainconditions described above, throughthis interim final rule.

The CFTC nevertheless invitescomments on this interim final rule and,when assessing whether to amend theinterim final trade option exemption,will consider all timely commentssubmitted during the public commentperiod as described in the followingsection.

VI. Request for Comment on InterimFinal Rule

In connection with the interim finalrules trade option exemption in 32.3adopted herein, the Commissionrequests comment on the followingquestions:

1. Generally, does the interim finalrule issued herein provide anappropriate regulatory framework fortrade options?

2. Regarding the trade optionexemption, will such provision preserveappropriate hedging opportunities for

current users of the trade optionsmarket? Is there any reason not to retainthe trade option exemption as issuedherein?

a. What types of entities offer tradeoptions pursuant to the existing tradeoption exemption? Is the scope of thetrade option exemption offerorrequirement in the interim final rule(i.e., offerors must be ECPs orcommercials) appropriate?Alternatively, is this offeror requirementeither too broad or too narrow?

b. Is the scope of the trade optionexemption offeree requirement in theinterim final rule (i.e., offerees must becommercials) appropriate?Alternatively, is this offeree requirementeither too broad or too narrow? ShouldECPs that are not commercials bepermitted as offerees? Why or why not?

c. Is the list of commercials describedin the interim final rule (i.e., a producer,processor, or commercial user of, or amerchant handling the commodity thatis the subject of the commodity optiontransaction, or the products or by-products thereof) appropriate?Alternatively, is this description of

commercials either too broad or toonarrow?

d. Is the range of commodity optiontransactions that would qualify for thetrade option exemption appropriate?

i. By requiring that a trade option,when exercised, must result in theimmediate (spot) or deferred (forward)shipment or delivery of an exempt or

agricultural commodity, would theinterim final rule improperly excludeother commodity option transactions,including other transactions withoptionality, that should be eligible for atrade option exemption?

ii. In the alternative, is this physicaldelivery requirement of the trade optionexemption too broad?

e. Should the interim final rule retainthe general exemptive authority at 32.3(e)?

f. In connection with 32.3:i. Is the requirement to comply with

the part 45 recordkeeping rules for all

trade option participants appropriate?ii. Is the requirement that certaintrade options be reported pursuant tothe reporting provisions of part 45appropriate?

1. Alternatively, should there be a deminimis threshold below which part 45reporting would not apply to a tradeoption transaction and its participants(unless they are SDs/MSPs)?

2. If the response to the foregoingquestion is yes, should the de minimisthreshold be based on the underlyingtransactions (volume, value, or someother measure), the participant

characteristics, both, or some othermeasure? Where practicable, pleaseidentify a specific level at which a deminimis threshold may be set.

iii. In 32.3(b)(1)(i), the Commissionprovides that trade options reporting forcommodity options is required forcounterparties that have becomeobligated to comply with the reportingrequirements of part 45. TheCommission understands that in somecircumstances a counterparty thattransacts trade options may not, itself,

be obligated to report under part 45, butmay be affiliated, at the enterprise orgroup level, with another entity thatcomplies with part 45. There may becircumstances, therefore, where theobligation to report trade options would

be more appropriately based on tradeoptions activity and part 45 reporting atthe enterprise or group level.

1. How often do cases occur in whicha person that is subject to part 45receives, in the ordinary course of

business, transaction-level trade optionsinformation from a trade optioncounterparty affiliate that is not subjectto part 45?



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55For example, should the requirement in 32.3(b)(1)(i) to report trade options extend to tradeoptions counterparties that have become obligatedto comply with the reporting requirements of part45, or are affiliated with a person that is requiredto comply with the reporting requirements of part45, provided that such an affiliate obtains throughthe ordinary course of business transaction-levelinformation on the trade options entered into by thecounterparty? An affiliate is a person that iseither commonly owned or commonly controlled,consistent with existing CFTC affiliate rules. Twopersons would be commonly owned affiliates if one

party directly or indirectly holds a majorityownership interest in the other, or if a third partydirectly or indirectly holds a majority interest inboth, based on holding a majority of the equitysecurities of an entity, or the right to receive upondissolution the contribution of a majority of thecapital of a partnership. Two persons are commonlycontrolled affiliates if either (1) one personpossesses the power, directly or indirectly, to director cause the direction of the management andpolicies of the other person whether through theownership of voting securities, by contract orotherwise or (2) a third person possesses the power,directly or indirectly, to direct or cause thedirection of the management and policies of bothpersons whether through the ownership of votingsecurities, by contract or otherwise.

5676 FR 6095, 6102, Feb. 3, 2011 (citing17 CFR32.4(a), which exempts a commodity option whenit is offered to a producer, processor, orcommercial user of, or a merchant handling, thecommodity which is the subject of the commodityoption transaction, or the products or by-productsthereof, and that such producer, processor,commercial user or merchant is offered or entersinto the commodity option transaction solely forpurposes related to its business as such).

57See 17 CFR 32.4. See also 17 CFR part 35 asin effect prior to December 31, 2011. In addition,there was a stand-alone regulatory regime foragricultural trade options set forth in pre Dodd-Frank 17 CFR 32.13.

58As discussed further below, as a consequence,the Commission is without reliable data from whichto assess the size of the commodity options marketor the number or types of market participants in it,which in turn makes quantification of the costs andbenefits of this rulemaking largely impracticable.

59Section 1(a)(47) specifically excludes from thedefinition of swap any option on a contract ofsale of a commodity for future delivery (i.e., optionson futures traded on designated contract markets).See CEA section 1(a)(47)(B)(i).

2. Should 32.3(b)(1) be revised toaccount for such situations and, if so,how? 55

iv. Is the requirement thatcounterparties to unreported tradeoptions submit an annual notice filing,via Form TO, for the purpose ofnotifying the Commission that suchcounterparty entered into one or more

unreported trade in the prior calendaryear appropriate?

1. Alternatively, should these tradeoptions be reported pursuant to part 45,notwithstanding that thesecounterparties do not otherwise complywith those requirements in connectionwith their swap trading activities? Whatwould be the costs and benefits of thisalternative condition? Please providedata and estimates to support yourcomments.

2. Should Form TO be required to besubmitted more often (e.g., quarterly ormonthly) and/or to require additional

data fields (e.g., expired and/or opentrade options and transaction specificdata for each unreported trade option)?What would be the costs associated withrequiring more frequent and/or moredetailed filings? Please provide data andestimates to support your comments.

v. Is the swaps large trader reportingcondition (part 20) appropriate for thetrade option exemption?

vi. Is the position limit condition (part151) appropriate for the trade optionexemption?

vii. Are the SD and MSPrecordkeeping, reporting, and risk

management conditions, as applied viapart 23, appropriate for SDs and MSPstransacting under the trade optionexemption?

viii. Is the condition retaining theapplicability of CEA section 4s(e)(Capital and Margin Requirements forSDs and MSPs) appropriate?

ix. Are the antifraud, anti-manipulation, and enforcement relatedconditions appropriate for the tradeoption exemption?

x. Since trade options have to be

physically delivered and may only beoffered to commercials for use in their

business as such, does it makes sense toexclude trade options from thecalculation of whether or not a marketparticipant is required to register as anSD or MSP? Alternatively, is there anyreason to include trade options in thecalculation of whether or not a marketparticipant is required to register as anSD or MSP?

3. Does the interim final rule issuedherein omit or fail to appropriatelyconsider any other areas of concernregarding commodity options?

4. The Commission also invitescomments on the costs and benefitsconsiderations of the interim final ruleunder CEA section 15a, below. TheCommission specifically requests thatcommenters quantify the costs and

benefits, where practical.Comments on these questions and the

interim final rule must be submitted tothe Commission, pursuant to theinstructions provided above, on or

before June 26, 2012.

VII. Related Matters

A. Cost Benefit Considerations

1. Background

Prior to the passage of the Dodd-FrankAct, the Commissions regulationspermitted certain commodity optiontransactions, including trade options.As described above and in the NPRM,trade options are used by commercialentities entering into the commodityoption transactions solely for purposesrelated to their business involving thecommodity.56 Buyers and sellers oftrade options transact bilaterally off-exchange.57

Under the pre-Dodd-Frank regulatoryconstruct, neither the buyer nor theseller of a commodity trade option were

required to register with theCommission, maintain books andrecords, or report their transactions tothe Commission in connection withtheir trade options activity. As a result,the current trade option market isopaque, affording virtually no regulatoryvisibility into its composition andscope.58

Congress altered the foundation forthis regulatory construct in passing theDodd-Frank Act, by, among otherthings, determining that the definitionof swap would include, among otherproducts, commodity options. Section721 of the Dodd-Frank Act addedsection 1a(47) to the CEA, definingswap to include not only anyagreement, contract, or transactioncommonly known as, among otherthings, a commodity swap, but also[an] option of any kind that is for thepurchase or sale, or based on the value,of 1 or more * * * commodities

* * *.59

In addition, the Dodd-FrankAct mandated substantial changes in theswaps regulatory regime to reduce risk,increase transparency, and promotemarket integrity within the financialsystem.

This legislative act implicitly requiredthe Commission to revisit its historicaltreatment of commodity options,including trade options. In so doing, theCommission is mindful that one of thepurposes of the Dodd-Frank Act is toincrease transparency of the financialmarkets, including the commodityoptions markets.

In response to the Dodd-Frank Acts

definition of swap to include options,on February 3, 2011, the Commissionpublished in the Federal Register aNotice of Proposed Rulemaking(NPRM) that proposed to treat allcommodity options (other than optionson futures) as swaps. In the NPRM, theCommission proposed to require that allsuch commodity option transactions,including trade options, comply withthe requirements that apply to swapsgenerally. While the NPRM receivedsignificant public comment, nocommenter provided any quantitativedata on costs or benefits.

Comments to the NPRM from theEnergy Working Group typifiedcommenters concern that treatingoptions on physical commodities like



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60Energy Working Group at 2.61Energy Working group at 11.62APGA at 4.63EEIEPSA at 3.64EEIEPSA at 78.65Commodity Options and Agricultural Swaps

Working Group at 34. 66See CEA section 4c(b).

any other swaps would imposesignificant costs:

Treating Physical Options transacted insuch markets as swaps would createuncertainty and impose costly andduplicative regulatory requirements.60

[T]he Working Group sees no reason theCommission should not continue to treatPhysical Options enter

2012-4-27 CFTC Final Commodity Options

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