The Securities and Exchange Commission (SEC) has taken a significant leap forward with the adoption of new Regulation SE. This regulation, which came into effect on February 13, 2024, establishes a comprehensive framework for the registration and oversight of Security-Based Swap Execution Facilities (SBSEFs). This development is a part of the SEC’s ongoing efforts to enhance transparency, pre-trade pricing, and risk reduction in the security-based swap markets.
In this blog post, we will delve into the details of this regulation and its implications for the financial market.
What is a Security-Based Swap Execution Facility?
An SBSEF is defined as “a trading system or platform in which more than one market participant has the ability to execute or trade security-based swaps with more than one other market participant on the system or platform”.
Details of Regulation SE
Regulation SE, adopted by the SEC, is a significant step towards enhancing the regulatory landscape of financial markets. It establishes a comprehensive framework for the registration and oversight of Security-Based Swap Execution Facilities (SBSEFs).
This regulation aligns closely with the Commodity Futures Trading Commission’s (CFTC’s) swap execution facility rules, emphasizing transparency, pre-trade pricing, and risk reduction in the security-based swap markets.
Regulation SE addresses the Exchange Act’s trade execution requirement for security-based swaps, cross-border application, and conflicts of interest mitigation, and fosters consistency with existing Exchange Act rules. It became effective on February 13, 2024, marking the completion of the rulemaking required under Title VII of Dodd-Frank.
SBSEF Registration and Key Rules
Registration Highlights
Entities that meet the definition of SBSEF can rely on temporary exemptions issued by the SEC. These exemptions exempt them from the requirement to register as an SBSEF or national securities exchange. These temporary exemptions will remain effective until the earliest compliance date for SBSEF registrants.
Rule 803 of Regulation SE outlines the requirements and procedures for SBSEF registration. An entity that meets the definition of SBSEF must register with the SEC as an SBSEF on Form SBSEF or as a national securities exchange. Certain foreign trading venues may seek exemptions, pursuant to Rule 833(a), from the requirement to register.
Key Compliance Dates
- Entities meeting the SBSEF definition must file an application with the SEC to register as an SBSEF on Form SBSEF after the Effective Date.
- Temporary SBSEF exemptions expire 180 days post the Effective Date for entities that haven’t filed an application to register with the SEC on Form SBSEF.
- Entities meeting the SBSEF definition and engaging in SBSEF activities, but not applying on Form SBSEF by 180 days post the Effective Date, will violate Rule 803’s registration requirements.
- For entities submitting an application on Form SBSEF by 180 days post the Effective Date, the exemptive relief relating to SBSEF registration expires 240 days post the Effective Date, unless their application on Form SBSEF is complete (i.e., they’ve responded to any SEC requests for revisions or amendments) within 240 days post the Effective Date.
- Entities with complete applications continue to benefit from the exemption until 30 days after the SEC approves or disapproves the application on Form SBSEF.
- An entity not meeting either compliance date must cease all operations as an SBSEF.
Core Principles of Regulation SE
Regulation SE establishes 14 core principles that Security-Based Swap Execution Facilities (SBSEFs) must comply with. These principles closely parallel the 15 core principles for Swap Execution Facilities under the Commodity Exchange Act. Here’s a summary of these core principles:
- Compliance with Core Principle: SBSEFs are obligated to register and maintain their registration. They must comply with the SBSEF Core Principles.
- Compliance with Rules: SBSEFs are required to enforce their rules and ensure fair market access, preventing any market abuses.
- Security-Based Swaps (SBS) Not Readily Susceptible to Manipulation: SBSEFs can only permit trading in SBS that is not prone to manipulation.
- Monitoring of Trading and Trade Processing: SBSEFs must monitor trading activities to prevent manipulation and disruptions, enforcing rules for trading and trade processing.
- Ability to Obtain Information: SBSEFs must be capable of acquiring essential information for their functions and provide it to the SEC when requested.
- Financial Integrity of Transactions: SBSEFs must ensure the financial integrity of SBS and monitor their members’ eligibility.
- Emergency Authority: SBSEFs must have rules for emergency authority, including the ability to liquidate or transfer open positions and suspend or curtail trading.
- Timely Publication of Trading Information: SBSEFs must make public timely information on price, trading volume, and other trading data on swaps.
- Recordkeeping and Reporting: SBSEFs must maintain comprehensive records of all business-related activities and provide necessary information to the SEC.
- Antitrust Considerations: SBSEFs must not establish rules that lead to any unreasonable restraint of trade or impose any material anticompetitive burden.
- Conflicts Of Interest: SBSEFs must minimize conflicts of interest in their decision-making process and establish a process for resolving them.
- Financial Resources: SBSEFs must have adequate resources to discharge each responsibility, including financial, operational, and managerial resources.
- System Safeguards: SBSEFs must establish a risk analysis program and emergency procedures, conducting periodic tests to ensure backup resources are sufficient.
- Designation of Chief Compliance Officer: SBSEFs must designate a chief compliance officer responsible for overseeing compliance, addressing conflicts of interest, and submitting an annual compliance report to the SEC.
Conclusion
The SEC’s adoption of Regulation SE is a landmark in financial market regulation, establishing a comprehensive framework for Security-Based Swap Execution Facilities (SBSEFs). It enhances transparency, pre-trade pricing, and risk reduction in security-based swap markets. The core principles and registration requirements ensure the fair and transparent operation of SBSEFs. The regulation’s scope is further broadened by cross-border considerations and trade execution requirements. In essence, the SEC’s final rule on Security-Based Swap is a significant stride toward a more transparent and secure financial market, setting a precedent for future regulations.
