Position Limits Rulemaking Comes Into Focus

After months of deliberation and 15,000 comments, the Commodity Futures Trading Commission finally brought the rulemaking to a vote.  As expected, the vote cut along party lines with Gensler, Dunn, and Chilton lining up to support the measure.  Sommers and O’Malia gave detailed soliloquies in opposition and provided the guideposts for anyone interested in legally challenging the rule.

With amendments crafted during deliberations, Commission staff is still busy finalizing the language of the rule.  So, the public won’t get to examine the exact verbiage for a few more days.

The CFTC provided a Fact Sheet and Q&A prior to the hearing.  While they are helpful, they do not go into substantive detail.  Here are some points we do know . . .

Spot Month & All-Months Combined Limits

New spot-month limits will be implemented 60 days after the Commission finalizes the “swap” definition.  All-months combined limits will take effect after the CFTC collects data for 12 months.

To determine appropriate levels, the Commission will look at open interest in futures, options, cleared swaps and uncleared swaps and apply the 10-2.5 formula.  This formula is 10 percent of the first 25,000 contracts + 2.5 percent beyond 25,000.

The Commission will re-evaluate ag limits every year but only every-other-year for energy contracts.

Deliverable Supply

Steve Sherrod and Commissioner Sommers faced-off over whether long-term contracts will be included in deliverable supply estimates.  While the Commission largely punted this issue to the rulemaking under Core Principle 3, Sommers made clear that current practices could be significantly altered.  Be prepared to fight this battle again.

Based on Sherrod’s presentation, exchanges must determine deliverable supply as of 12/31 and the CFTC verifies the number.  Spot-month limits will be set generally at 25 percent of deliverable supply.

In the interim, the Commission appears open to revised estimates from exchanges.  This could significantly impact position limits.

Conditional Limits

Conditional limits will allow market participants to take positions in both cash-settled and physically-settled contracts.  For natural gas, the ratio will be 5:1.  For all other contracts, the ratio will be 1:1.

This provision was carved out as an interim final rule, which means it will be open to public comment in the near future.  Commissioner Chilton clarified that the CFTC will reassess these limits in about a year.

Bona Fide Hedging

The Commission and staff promise that current practice will be permissible under the new bona fide hedge definition.  No anticipatory merchandizing transactions can be held in the last 5 days of the spot month.

According to Sherrod, there are 8 enumerated transactions that should cover all current practices; however, he only named 4.  Specifically he listed, calendar month spreads, royalty, service, and positions established in good faith prior to implementation.

To further muddy the waters, Sherrod also went on record saying the enumerated bona fide hedging transactions are not exclusive.

In a last-second huddle, Commissioners agreed to an amendment that allows industry to submit transactions for regulatory guidance.  According to Sherrod, staff will evaluate the facts and circumstances in making a determination.  Specifically they will look at:

1) Is the transaction reducing risk?

2) Is the transaction entered into by an anticipated producer of the commodity?

3) Is the transaction for a commodity used an in input in the market participant’s process?

This mother-may-I approach could prove burdensome for businesses in the commercial space.

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