Dodd Frank Act
ith so many regulatory changes in South Africa, South African businesses may be forgiven for allowing some of the international legislation to escape the regulatory and compliance radar. The danger is that with respect to certain international regulatory changes, the ramifications for some South African businesses are more pronounced than the changes imposed by some SA specific legislation. One piece of legislation that requires the ardent attention of the South African financial markets is the Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd Frank Act). The misconception is that it is limited to the US institutions or only has an impact to the extent that our local legislation is amended to align with Dodd-Frank. Irrespective of our local regulator’s intervention there are certain provisions of the Act that affect SA companies and must be factored in all risk management plans. The Act introduces the most aggressive and sweeping changes to the US financial markets regulation since the Great Depression. This week’s article will focus on the implications of Dodd Frank Act on South African institutions that fall within the definition of Swap Dealers and Major Swap Participant and how they are regulated by Title VII of the Act. Title VII has far reaching implications for these entities, including the requirements to be registered by the applicable regulator and that they comply with prescribed minimum capital requirements and initial and variation margin requirements.
The registration deadline has been set at 12 October 2012 with an extended deadline being afforded to smaller swap dealers until December 2012. The question has been raised whether the Act has extra territorial effect and regulates entities outside of the US. The short answer is that Dodd-Frank “shall not apply to activities outside the United States unless those activities – (1) have a direct and significant connection with activities in, or effect on, commerce of the United States.” However, this provision has been interpreted extremely widely in view of the United States Constitution’s “Intergalactic Commerce Clause”. In essence it means if a South African entity enters into swaps with US counterparties, Dodd-Frank will apply. The challenge is that the definition of US person is not limited to a person that is resident in the US. The Commodities Futures Trading Commission (CFTC) has issued a guideline that suggests that a US person may be a foreign business on whose behalf a US owner has issued a guarantee. This means that transactions that occur wholly outside the US may be ensnared by Dodd-Frank.
On 18 April 2012, the CFTC and the Securities Exchange Commission adopted final rules to further define the terms “Swap Dealer” and “Major Swap Participant”. Any entity that has CFTC swap dealing activity that meets the notional threshold of USD 8 billion in a 12 month period or USD 400 million for other swaps will fall within definition of Swap Dealer. There has been debate about whether the compliance deadline is October 2012 or December 2012 depending on the level of swap activity an entity generates.
Irrespective of which date is the correct one, South African swap counterparties must begin preparing for compliance as early as today. This means ensuring adequate awareness and training; receiving legal opinions on whether the various entities are swap dealers or not; applying for exemptions, where applicable; enhancing operational and compliance systems to cater for on-going obligations of swap data record-keeping; swap data reporting to trade repositories and real- time reporting of trade data for interest rate swaps and credit derivatives. This is further complicated by the fact that South Africa has not yet finalised the regulatory framework in terms of its G 20 commitment to set up a trade repository, which means in the meantime South African swap counterparties must make their reports to an offshore trade repository.
Monitoring whether a counterparty is swap dealer and whether their situation changes down the line will become an important on-boarding as well as on-going obligation. This may also affect legal documentation and the representations that a firm should request from counterparties in terms of their swap dealer status.