SEC Seeks New Rules for Swap Players, Including Governments

WASHINGTON —The Securities and Exchange Commission voted unanimously Wednesday to propose new rules governing transactions between swap dealers and customers, including state and local governments.

The SEC’s proposal, part of a broader push among financial regulators to boost transparency in the swaps market, would craft business-conduct standards for security-based swap dealers and participants.

The proposed regulation comes almost one year after the enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act, which gave the SEC oversight over security-based swaps, such as credit default swaps, and security-based swap participants.

“The rules we are proposing today would level the playing field in the security-based swap market by bringing needed transparency to this market and by seeking to ensure that customers in these transactions are treated fairly,” SEC chairman Mary Schapiro said in her opening statement at the public meeting.

The agency’s proposal would impose heightened obligations on security-based swap dealers and participants who act as counterparties to “special entities,” including state and local governments and public sector pension funds.

Specifically, a security-based swap dealer would need to have a reasonable basis to believe the state and local government or pension fund had a qualified independent representative acting as an adviser in the transaction. A security-based swap dealer would also need to act in the best interests of the governmental unit or pension.

Similar standards proposed by the Commodity Futures Trading Commission six months ago triggered protest among swap dealers and industry groups.

Dodd-Frank gave the CFTC authority to regulate swaps, swap dealers and major swap participants, or MSPs, including most muni-bond related swaps.

In comment letters filed with the CFTC earlier this year, swap dealers and industry groups said the proposed regulations — including the “best interests” requirement — would force swap dealers to stop entering into swaps with state and local governments.

But unlike the CFTC’s proposed business-conduct standards, which apply when state and local governments enter into swaps, the SEC’s standards could have a limited impact on the municipal market, according to some sources.

For example, the SEC’s proposed standards could apply when state and local governments or public pension funds buy or invest in corporate debt, such as corporate bonds, and seek credit default swaps as protection against a possible default by the corporate issuer. The agency’s proposal would not apply when state and local governments issue debt, one source said.

Still, swap dealers said the SEC’s proposed business-conduct standards remain a concern. “In the best of scenarios, it results in each counterparty, each dealer, becoming a mini-regulator,” said Sam Gruer, managing director of Cityview Capital Solutions LLC in Millburn, N.J. “That’s a scary thought.”

Public comments on the SEC’s proposal are due by Aug. 29.

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