Still Floating: Security-Based Swap Agreements after Dodd-Frank

Abstract

The over-the-counter derivatives market involves trillions of dollars. Before Congress enacted The Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”) in 2010, this enormous market largely was left unregulated. Dodd-Frank changed the playing field dramatically, subjecting over-the-counter derivatives to extensive new regulation by the Securities Exchange Commission (the “SEC”) and the Commodity Futures Trading Commission (the “CFTC”). About ten years before Dodd-Frank, the Commodity Futures Modernization Act of 2000 (the “CFMA”) had established that most over-the-counter derivatives were not securities for purposes of the Securities Act of 1933 (the “Securities Act”) and the Securities Exchange Act of 1934 (the “Exchange Act”). At the same time, the CFMA subjected a specific category of over-the-counter derivatives — security-based swap agreements — to the antifraud prohibitions under Securities Act § 17(a) and Exchange Act § 10(b) and Rule 10b-5. Since the CFMA was enacted, few courts have interpreted the term “security-based swap agreement” and only one has given it studied attention. Dodd-Frank narrowed the definition of the term and left the antifraud prohibitions in place. This Article examines the historical interpretation of the term “security-based swap agreement,” its application in recent SEC enforcement actions involving interest rate swaps and the continuing viability post-Dodd-Frank of having security-based swap agreements subject to the antifraud provisions of the Securities Act and the Exchange Act. It concludes that Congress should eliminate application of those antifraud provisions to security-based swap agreements because continuing to have them apply is unnecessary and undesirable after Dodd-Frank. The Article begins with a discussion of how the securities laws applied to swaps, the most common over-the-counter derivatives, prior to Dodd-Frank. After reviewing and critiquing the handful of opinions that have considered the scope of the term “security-based swap agreement,” the Article considers whether the interest rate swaps at issue in the recent SEC enforcement actions are security-based swap agreements. The Article next describes generally the jurisdictional division between the SEC and the CFTC under Dodd-Frank and how security-based swap agreements fit within the new regime. It then explores reasons to do away with the “security-based swap agreement” concept in the federal securities laws, while considering the possible benefits of retaining it. The Article ultimately concludes that Congress should eliminate the “security-based swap agreement” concept from the Securities Act and the Exchange Act and explains why its continuing presence in the federal securities laws is unnecessary and undesirable.