By Rich Heidorn Jr.
PJM Insider
WASHINGTON (April 2, 2013) — The Commodity Futures Trading Commission agreed Thursday to exempt PJM market transactions from most of its regulations, ceding authority to the Federal Energy Regulatory Commission.
But it is unclear whether CFTC’s action will end its turf skirmishes with FERC because the agency retained its right to police RTO trades under its anti-fraud and anti-manipulation authority (see pg. 2 of the order). Also unclear is the impact on small traders that don’t meet the criteria for the CFTC exemption.
Acting on a petition by PJM and other Regional Transmission Organizations and Independent System Operators, the CFTC relinquished most oversight over energy, capacity and ancillary product transactions already regulated by FERC. The exemption also applies to ERCOT, which is regulated by the Public Utility Commission of Texas (PUCT).
The commission’s 5-0 ruling is nearly identical to the proposed order it issued August 28, but includes expanded definitions of covered transactions and parties.
The Dodd-Frank Wall Street reform act encouraged the jurisdictional handoff by inserting a section in the Commodity Exchange Act (CEA) underscoring FERC’s authority over RTO transactions.
Exempt Transactions
Exempted are FTRs (p. 13), day ahead and real time energy transactions, including demand response (p. 14); forward capacity transactions (p. 14-15) and Reserve Regulation Transactions (p. 15-16). Similar products offered by the RTOs in the future also will be exempt (p. 22-23).
PJM and the other regional system operators said the transactions should be exempt because they are “subject to pervasive regulatory oversight” by FERC and PUCT. The regions said they made the request “in an abundance of caution” to forestall future legal challenges that could cause market “uncertainty.”
The definition of exempted transactions was expanded in the final order to include “Virtual and Convergence Bids and Offers,” because they enable market participants to trade energy without physically producing or consuming it. “Although there is an apparent financial settlement nature of virtual and convergence bids and offers … they are inextricably linked to the physical delivery of electric energy due to their being subject to the same aggregate physical capabilities of the electric energy transmission grid as other physical Energy Transactions,” the commission wrote (p. 31-32).
Not exempted are financial transactions that are “not tied to the allocation of the physical capabilities” of the electric grid “because such activity would not be inextricably linked to the physical delivery” of electricity (p. 16).
Exempt Parties
The transactions are only exempt if conducted among “appropriate persons,” a definition that includes banks, broker-dealers regulated by the Securities Exchange Act, futures traders regulated under the CEA and other companies with a net worth exceeding $1 million or total assets exceeding $5 million.
The commission expanded the definition to include a “person who actively participates in the generation, transmission, or distribution of electric energy” but declined to extend the exemption to all those participating in RTO and ISO markets (p. 77-78).
The only parties not exempt in RTOs, the commission said, are “market participants that can demonstrate neither the financial wherewithal nor the requisite business activities and congruent expertise to qualify as appropriate persons under” the Commodity Exchange Act (p. 78).
“The Commission is concerned that a person or entity that is engaged in purely financial transactions in the RTO or ISO markets, but that does not meet [the] … appropriate person criteria may be operating on inadequate resources and may pose inappropriate risks to itself and other market participants.” (p. 70-71)
RTO Interpretation
In comments filed Dec. 20, PJM requested that the commission rule that all PJM market participants are “appropriate persons.” Of 588 participants with transaction rights in PJM markets, PJM said, it was unable to confirm that 246 would qualify as Appropriate Persons. In the final order, the commission indicated that 55 PJM participants — an apparent reference to financial traders listed by PJM — would not be covered by the rule (footnote 412, p. 108).
Carol Smoots, counsel to the Financial Marketers Coalition, said the number of market participants excluded from the exemption will be determined largely by how the ISOs and RTOs interpret the CFTC order. “If a participant is trading in three markets do they need to have $1 million net worth in each?” she asked.
A PJM spokeswoman said yesterday the RTO “is reviewing the order and will discuss the implications for members in the near future.”
CFTC-FERC Conflicts
Smoots said the CFTC’s retention of its authority to take action against electric market participants for fraud or market manipulation means that the agency could find itself at odds with FERC in the future.
“It continues to be a pretty troubled relationship,” she said. “Hopefully, this order removes uncertainty in a lot of areas, but there’s a lot of uncertainty that remains.”
The two agencies recently squared off in federal court over FERC’s prosecution of former Amaranth Advisors trader Brian Hunter for market manipulation. Hunter was accused of selling natural gas futures contracts at the end of the trading day to drive down the closing price — benefitting swap positions held by Amaranth.
FERC argued that it shared jurisdiction with CFTC in the case because Hunter’s actions impacted natural gas physical markets, over which FERC has clear jurisdiction. The CFTC insisted it had exclusive jurisdiction over the futures markets, a position the U.S. Court of Appeals for the D.C. Circuit backed in a ruling March 15.
Conditions
The CFTC conditioned its exemption on the regions’ compliance with FERC Order 741 on credit practices and a legal opinion from outside counsel that the region’s netting arrangements give it the right to seize a trader’s assets in a bankruptcy (p. 17).
The commission also required that that information sharing arrangements with FERC remain in effect and that the regions agree not to notify a member prior to providing the commission information about it in response to a subpoena (p. 18).
Recreating Market Prices
The CFTC dropped a proposed condition that the regions be able to re-create Day Ahead and Real Time prices — an aid to investigators seeking to determine the magnitude of losses caused by manipulative trading schemes. The commission said it dropped the requirement because of “the potentially significant costs” involved although it encouraged FERC and PUCT to issue the requirement. (p. 92)
