On August 12, 2022, the CFTC issued a final rule modifying its clearing requirement for interest rate swaps (“IRS”).
The final rule updates the types of IRS required to be submitted to a registered derivatives clearing organization (“DCO”) for mandatory clearing by:
- eliminating the requirements to clear IRS referencing LIBOR and certain other interbank offered rates (“IBORs”); and
- introducing, in their place, new requirements to clear IRS referencing the relevant replacement risk-free rates, such as the Secured Overnight Financing Rate (“SOFR”) in the case of USD LIBOR.
CFTC Chairman Rostin Behnam called the final rule an “important milestone” in the transition away from LIBOR and other IBORs, noting the importance of legal certainty and regulatory transparency in promoting financial stability, mitigating systemic risk and ensuring cross border harmonization in the IRS market.
Background
Title VII of the Dodd-Frank Act amended the Commodity Exchange Act to require that a swap be cleared through a registered (or exempt) DCO if the CFTC has issued a determination that the swap (or relevant group, category, type or class of swaps) is required to be cleared.
Since the enactment of the Dodd-Frank Act, the CFTC has issued clearing determinations with respect to IRS in four classes: fixed-to-floating swaps, basis swaps, forward rate agreements (FRAs) and overnight index swaps (OIS), including a number of IRS referencing LIBOR and other IBORs in various currencies.
In recent years, regulators and global standard-setting bodies have urged market participants to accelerate their adoption of USD SOFR and other replacement risk-free rates and to cease entering into new swaps referencing LIBOR and other IBORs. As this phaseout continues, liquidity has shifted away from IBOR swaps and into OIS referencing the risk-free rates.
In light of this shift, the CFTC has determined that the IRS clearing requirements must be modified to address the cessation (or loss of representativeness) of various IBORs that have been used as reference rates and the market’s adoption of swaps referencing the risk-free rates.
Final Rule
The final rule amends the clearing requirements in CFTC Regulation 50.4(a) as follows:
- Removing the requirement to clear IRS referencing USD, GBP, CHF and JPY LIBOR, Euro Overnight Index Average (EONIA) and SGD Swap Offer Rate (SOR-VWAP), in each of the fixed-to-floating swap, basis swap and forward rate agreement classes, as applicable; and
- Adding new requirements to clear the following classes of IRS:
- USD-denominated IRS referencing SOFR with a stated termination date range of seven days to 50 years;
- GBP-denominated IRS referencing the Sterling Overnight Index Average (SONIA) with a stated termination date range of seven days to 50 years;
- JPY-denominated IRS referencing the Tokyo Overnight Average Rate (TONA) as a floating rate index with a stated termination date range of seven days to 30 years;
- CHF-denominated IRS referencing the Swiss Average Rate Overnight (SARON) as a floating rate index with a stated termination date range of seven days to 30 years;
- SGD-denominated IRS referencing the Singapore Overnight Rate Average (SORA) with a stated termination date range of seven days to 10 years; and
- EUR-denominated IRS referencing the Euro Short-Term Rate (€STR) with a stated termination date range of seven days to three years.
Although these amendments will become effective 30 days after publication of the final rule in the Federal Register, in order to align with the anticipated timing for discontinuation of certain LIBORs and to harmonize with foreign regulatory timelines, special implementation dates will apply in the following cases:
- October 31, 2022 for the new requirements to clear OIS referencing SOFR and SGD SORA; and
- July 1, 2023 for the removal of the requirements to clear IRS referencing USD LIBOR and SGD SOR-VWAP.