Order Finding That the ICE PG&E Citygate Financial Basis Contract Traded on the IntercontinentalExchange, Inc., Performs a Significant Price Discovery Function, 23710-23718 [2010-10305]
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b. Cost-Benefit Analysis
Section 15(a) of the CEA 35 requires
the Commission to consider the costs
and benefits of its actions before issuing
an order under the Act. By its terms,
section 15(a) does not require the
Commission to quantify the costs and
benefits of an order or to determine
whether the benefits of the order
outweigh its costs; rather, it requires
that the Commission ‘‘consider’’ the
costs and benefits of its actions. Section
15(a) further specifies that the costs and
benefits shall be evaluated in light of
five broad areas of market and public
concern: (1) Protection of market
participants and the public; (2)
efficiency, competitiveness and
financial integrity of futures markets; (3)
price discovery; (4) sound risk
management practices; and (5) other
public interest considerations. The
Commission may in its discretion give
greater weight to any one of the five
enumerated areas and could in its
discretion determine that,
notwithstanding its costs, a particular
order is necessary or appropriate to
protect the public interest or to
effectuate any of the provisions or
accomplish any of the purposes of the
Act. The Commission has considered
the costs and benefits in light of the
specific provisions of section 15(a) of
the Act and has concluded that the
Order, required by Congress to
strengthen federal oversight of exempt
commercial markets and to prevent
market manipulation, is necessary and
appropriate to accomplish the purposes
of section 2(h)(7) of the Act.
When a futures contract begins to
serve a significant price discovery
function, that contract, and the ECM on
which it is traded, warrants increased
oversight to deter and prevent price
manipulation or other disruptions to
market integrity, both on the ECM itself
and in any related futures contracts
trading on DCMs. An Order finding that
a particular contract is a SPDC triggers
this increased oversight and imposes
obligations on the ECM calculated to
accomplish this goal. The increased
oversight engendered by the issue of a
SPDC Order increases transparency and
helps to ensure fair competition among
ECMs and DCMs trading similar
products and competing for the same
business. Moreover, the ECM on which
the SPDC is traded must assume, with
respect to that contract, all the
responsibilities and obligations of a
registered entity under the CEA and
Commission regulations. Additionally,
the ECM must comply with nine core
principles established by section 2(h)(7)
of the Act—including the obligation to
establish position limits and/or
accountability standards for the SPDC.
Section 4(i) of the CEA authorizes the
Commission to require reports for
SPDCs listed on ECMs. These increased
responsibilities, along with the CFTC’s
increased regulatory authority, subject
the ECM’s risk management practices to
the Commission’s supervision and
oversight and generally enhance the
financial integrity of the markets.
c. Regulatory Flexibility Act
The Regulatory Flexibility Act
(‘‘RFA’’) 36 requires that agencies
consider the impact of their rules on
small businesses. The requirements of
CEA section 2(h)(7) and the Part 36
rules affect ECMs. The Commission
previously has determined that ECMs
are not small entities for purposes of the
RFA.37 Accordingly, the Chairman, on
behalf of the Commission, hereby
certifies pursuant to 5 U.S.C. 605(b) that
this Order, taken in connection with
section 2(h)(7) of the Act and the Part
36 rules, will not have a significant
impact on a substantial number of small
entities.
VI. Order
a. Order Relating to the ICE NWP
Rockies Financial Basis Contract
After considering the complete record
in this matter, including the comment
letters received in response to its
request for comments, the Commission
has determined to issue the following:
The Commission, pursuant to its
authority under section 2(h)(7) of the
Act, hereby determines that the NWP
Rockies Financial Basis contract, traded
on the IntercontinentalExchange, Inc.,
satisfies the statutory material liquidity
and material price reference criteria for
significant price discovery contracts.
Consistent with this determination, and
effective immediately, the
IntercontinentalExchange, Inc., must
comply with, with respect to the NWP
Rockies Financial Basis contract, the
nine core principles established by new
section 2(h)(7)(C). Additionally, the
IntercontinentalExchange, Inc., shall be
and is considered a registered entity 38
with respect to the NWP Rockies
Financial Basis contract and is subject
to all the provisions of the Commodity
Exchange Act applicable to registered
entities.
36 5
U.S.C. 601 et seq.
FR 42256, 42268 (Aug. 10, 2001).
38 7 U.S.C. 1a(29).
37 66
35 7
U.S.C. 19(a).
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Further, the obligations, requirements
and timetables prescribed in
Commission rule 36.3(c)(4) governing
core principle compliance by the
IntercontinentalExchange, Inc.,
commence with the issuance of this
Order.39
Issued in Washington, DC on April 28,
2010, by the Commission.
David A. Stawick,
Secretary of the Commission.
[FR Doc. 2010–10304 Filed 5–3–10; 8:45 am]
BILLING CODE P
COMMODITY FUTURES TRADING
COMMISSION
Order Finding That the ICE PG&E
Citygate Financial Basis Contract
Traded on the
IntercontinentalExchange, Inc.,
Performs a Significant Price Discovery
Function
AGENCY: Commodity Futures Trading
Commission.
ACTION: Final order.
SUMMARY: On October 9, 2009, the
Commodity Futures Trading
Commission (‘‘CFTC’’ or ‘‘Commission’’)
published for comment in the Federal
Register 1 a notice of its intent to
undertake a determination whether the
PG&E Citygate Financial Basis (‘‘PGE’’)
contract, traded on the
IntercontinentalExchange, Inc. (‘‘ICE’’),
an exempt commercial market (‘‘ECM’’)
under sections 2(h)(3)–(5) of the
Commodity Exchange Act (‘‘CEA’’ or the
‘‘Act’’), performs a significant price
discovery function pursuant to section
2(h)(7) of the CEA. The Commission
undertook this review based upon an
initial evaluation of information and
data provided by ICE as well as other
available information. The Commission
has reviewed the entire record in this
matter, including all comments
received, and has determined to issue
an order finding that the PGE contract
performs a significant price discovery
function. Authority for this action is
found in section 2(h)(7) of the CEA and
Commission rule 36.3(c) promulgated
thereunder.
DATES: Effective date: April 28, 2010.
FOR FURTHER INFORMATION CONTACT:
Gregory K. Price, Industry Economist,
Division of Market Oversight,
39 Because ICE already lists for trading a contract
(i.e., the Henry Financial LD1 Fixed Price contract)
that was previously declared by the Commission to
be a SPDC, ICE must submit a written
demonstration of compliance with the Core
Principles within 30 calendar days of the date of
this Order. 17 CFR 36.3(c)(4).
1 74 FR 52210 (October 9, 2009).
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Federal Register / Vol. 75, No. 85 / Tuesday, May 4, 2010 / Notices
Commodity Futures Trading
Commission, Three Lafayette Centre,
1155 21st Street, NW., Washington, DC
20581. Telephone: (202) 418–5515. Email: gprice@cftc.gov; or Susan Nathan,
Senior Special Counsel, Division of
Market Oversight, same address.
Telephone: (202) 418–5133. E-mail:
snathan@cftc.gov.
SUPPLEMENTARY INFORMATION:
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I. Introduction
The CFTC Reauthorization Act of
2008 (‘‘Reauthorization Act’’) 2
significantly broadened the CFTC’s
regulatory authority with respect to
ECMs by creating, in section 2(h)(7) of
the CEA, a new regulatory category—
ECMs on which significant price
discovery contracts (‘‘SPDCs’’) are
traded—and treating ECMs in that
category as registered entities under the
CEA.3 The legislation authorizes the
CFTC to designate an agreement,
contract or transaction as a SPDC if the
Commission determines, under criteria
established in section 2(h)(7), that it
performs a significant price discovery
function. When the Commission makes
such a determination, the ECM on
which the SPDC is traded must assume,
with respect to that contract, all the
responsibilities and obligations of a
registered entity under the Act and
Commission regulations, and must
comply with nine core principles
established by new section 2(h)(7)(C).
On March 16, 2009, the CFTC
promulgated final rules implementing
the provisions of the Reauthorization
Act.4 As relevant here, rule 36.3
imposes increased information reporting
requirements on ECMs to assist the
Commission in making prompt
assessments whether particular ECM
contracts may be SPDCs. In addition to
filing quarterly reports of its contracts,
an ECM must notify the Commission
promptly concerning any contract
traded in reliance on the exemption in
section 2(h)(3) of the CEA that averaged
five trades per day or more over the
most recent calendar quarter, and for
which the exchange sells its price
information regarding the contract to
market participants or industry
publications, or whose daily closing or
settlement prices on 95 percent or more
of the days in the most recent quarter
were within 2.5 percent of the
contemporaneously determined closing,
2 Incorporated as Title XIII of the Food,
Conservation and Energy Act of 2008, Pub. L. 110–
246, 122 Stat. 1624 (June 18, 2008).
3 7 U.S.C. 1a(29).
4 74 FR 12178 (Mar. 23, 2009); these rules became
effective on April 22, 2009.
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settlement or other daily prices of
another contract.
Commission rule 36.3(c)(3)
established the procedures by which the
Commission makes and announces its
determination whether a particular ECM
contract serves a significant price
discovery function. Under those
procedures, the Commission will
publish notice in the Federal Register
that it intends to undertake an
evaluation whether the specified
agreement, contract or transaction
performs a significant price discovery
function and to receive written views,
data and arguments relevant to its
determination from the ECM and other
interested persons. Upon the close of
the comment period, the Commission
will consider, among other things, all
relevant information regarding the
subject contract and issue an order
announcing and explaining its
determination whether or not the
contract is a SPDC. The issuance of an
affirmative order signals the
effectiveness of the Commission’s
regulatory authorities over an ECM with
respect to a SPDC; at that time such an
ECM becomes subject to all provisions
of the CEA applicable to registered
entities.5 The issuance of such an order
also triggers the obligations,
requirements and timetables prescribed
in Commission rule 36.3(c)(4).6
II. Notice of Intent To Undertake SPDC
Determination
On October 9, 2009, the Commission
published in the Federal Register notice
of its intent to undertake a
determination whether the PGE contract
performs a significant price discovery
function, and requested comment from
interested parties.7 Comments were
received from the Industrial Energy
Consumers of America (‘‘IECA’’),
5 Public Law 110–246 at 13203; Joint Explanatory
Statement of the Committee of Conference, H.R.
Rep. No. 110–627, 110 Cong., 2d Sess. 978, 986
(Conference Committee Report). See also 73 FR
75888, 75894 (Dec. 12, 2008).
6 For an initial SPDC, ECMs have a grace period
of 90 calendar days from the issuance of a SPDC
determination order to submit a written
demonstration of compliance with the applicable
core principles. For subsequent SPDCs, ECMs have
a grace period of 30 calendar days to demonstrate
core principle compliance.
7 The Commission’s Part 36 rules establish,
among other things, procedures by which the
Commission makes and announces its
determination whether a specific ECM contract
serves a significant price discovery function. Under
those procedures, the Commission publishes a
notice in the Federal Register that it intends to
undertake a determination whether a specified
agreement, contract or transaction performs a
significant price discovery function and to receive
written data, views and arguments relevant to its
determination from the ECM and other interested
persons.
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Working Group of Commercial Energy
Firms (‘‘WGCEF’’), ICE, Economists
Incorporated (‘‘EI’’), Natural Gas Supply
Association (‘‘NGSA’’), Federal Energy
Regulatory Commission (‘‘FERC’’), and
Financial Institutions Energy Group
(‘‘FIEG’’).8 The comment letter from
FERC 9 did not directly address the
issue of whether or not the PGE contract
is a SPDC; IECA concluded that the PGE
contract is a SPDC, but did not provide
a basis for its conclusion.10 The other
parties’ comments raised substantive
issues with respect to the applicability
of section 2(h)(7) to the PGE contract,
generally asserting that the PGE contract
is not a SPDC as it does not meet the
material liquidity, material price
reference and price linkage criteria for
SPDC determination. Those comments
are more extensively discussed below,
as applicable.
III. Section 2(h)(7) of the CEA
The Commission is directed by
section 2(h)(7) of the CEA to consider
8 IECA describes itself as an ‘‘association of
leading manufacturing companies’’ whose
membership ‘‘represents a diverse set of industries
including: plastics, cement, paper, food processing,
brick, chemicals, fertilizer, insulation, steel, glass,
industrial gases, pharmaceutical, aluminum and
brewing.’’ WGCEF describes itself as ‘‘a diverse
group of commercial firms in the domestic energy
industry whose primary business activity is the
physical delivery of one or more energy
commodities to customers, including industrial,
commercial and residential consumers’’ and whose
membership consists of ‘‘energy producers,
marketers and utilities.’’ ICE is an ECM, as noted
above. EI is an economic consulting firm with
offices located in Washington, DC, and San
Francisco, CA. NGSA is an industry association
comprised of natural gas producers and marketers.
FERC is an independent federal regulatory agency
that, among other things, regulates the interstate
transmission of natural gas, oil and electricity. FIEG
describes itself as an association of investment and
commercial banks who are active participants in
various sectors of the natural gas markets,
‘‘including acting as marketers, lenders,
underwriters of debt and equity securities, and
proprietary investors.’’ The comment letters are
available on the Commission’s Web site: https://
www.cftc.gov/lawandregulation/federalregister/
federalregistercomments/2009/09-023.html.
9 FERC stated that the PGE contract is cash settled
and does not contemplate actual physical delivery
of natural gas. Accordingly, FERC expressed the
opinion that a determination by the Commission
that a contract performs a significant price
discovery function ‘‘would not appear to conflict
with FERC’s exclusive jurisdiction under the
Natural Gas Act (NGA) over certain sales of natural
gas in interstate commerce for resale or with its
other regulatory responsibilities under the NGA’’
and further that, ‘‘the FERC staff will continue to
monitor for any such conflict * * * [and] advise
the CFTC’’ should any such potential conflict arise.
CL 06 (references the number of the comment letter
(‘‘CL’’) in the public record).
10 IECA stated that the subject ICE contract should
‘‘be required to come into compliance with core
principles mandated by Section 2(h)(7) of the Act
and with other statutory provisions applicable to
registered entities. [This contract] should be subject
to the Commission’s position limit authority,
emergency authority and large trader reporting
requirements, among others.’’ CL 01.
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the following criteria in determining a
contract’s significant price discovery
function:
• Price Linkage—the extent to which
the agreement, contract or transaction
uses or otherwise relies on a daily or
final settlement price, or other major
price parameter, of a contract or
contracts listed for trading on or subject
to the rules of a designated contract
market (‘‘DCM’’) or derivatives
transaction execution facility (‘‘DTEF’’),
or a SPDC traded on an electronic
trading facility, to value a position,
transfer or convert a position, cash or
financially settle a position, or close out
a position.
• Arbitrage—the extent to which the
price for the agreement, contract or
transaction is sufficiently related to the
price of a contract or contracts listed for
trading on or subject to the rules of a
DCM or DTEF, or a SPDC traded on or
subject to the rules of an electronic
trading facility, so as to permit market
participants to effectively arbitrage
between the markets by simultaneously
maintaining positions or executing
trades in the contracts on a frequent and
recurring basis.
• Material price reference—the extent
to which, on a frequent and recurring
basis, bids, offers or transactions in a
commodity are directly based on, or are
determined by referencing or
consulting, the prices generated by
agreements, contracts or transactions
being traded or executed on the
electronic trading facility.
• Material liquidity—the extent to
which the volume of agreements,
contracts or transactions in a
commodity being traded on the
electronic trading facility is sufficient to
have a material effect on other
agreements, contracts or transactions
listed for trading on or subject to the
rules of a DCM, DTEF or electronic
trading facility operating in reliance on
the exemption in section 2(h)(3).
Not all criteria must be present to
support a determination that a
particular contract performs a
significant price discovery function, and
one or more criteria may be inapplicable
to a particular contract.11 Moreover, the
statutory language neither prioritizes the
criteria nor specifies the degree to
which a SPDC must conform to the
various criteria. In Guidance issued in
connection with the Part 36 rules
governing ECMs with SPDCs, the
11 In its October 9, 2009, Federal Register release,
the Commission identified material price reference,
price linkage and material liquidity as the possible
criteria for SPDC determination of the PGE contract.
Arbitrage was not identified as a possible criterion
and will not be discussed further in this document
or the associated Order.
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Commission observed that these criteria
do not lend themselves to a mechanical
checklist or formulaic analysis.
Accordingly, the Commission has
indicated that in making its
determinations it will consider the
circumstances under which the
presence of a particular criterion, or
combination of criteria, would be
sufficient to support a SPDC
determination.12 For example, for
contracts that are linked to other
contracts or that may be arbitraged with
other contracts, the Commission will
consider whether the price of the
potential SPDC moves in such harmony
with the other contract that the two
markets essentially become
interchangeable. This co-movement of
prices would be an indication that
activity in the contract had reached a
level sufficient for the contract to
perform a significant price discovery
function. In evaluating a contract’s price
discovery role as a price reference, the
Commission will consider the extent to
which, on a frequent and recurring
basis, bids, offers or transactions are
directly based on, or are determined by
referencing, the prices established for
the contract.
IV. Findings and Conclusions
a. The PG&E Citygate (PGE) Financial
Basis Contract and the SPDC Indicia
The PGE contract is cash settled based
on the difference between the bidweek
price index for the price of natural gas
at the PG&E Citygate for the month of
delivery, as published in Intelligence
Press Inc.’s (‘‘IPI’s’’) Natural Gas
Bidweek Survey, and the final
settlement price of the New York
Mercantile Exchange’s (‘‘NYMEX’s’’)
physically-delivered Henry Hub natural
gas futures contract for the same
calendar month. The IPI bidweek price,
which is published monthly, is based on
a survey of cash market traders who
voluntarily report to IPI data on fixedprice transactions for physical delivery
of natural gas at the PG&E Citygate
conducted during the last five business
days of the month; such bidweek
transactions specify the delivery of
natural gas on a uniform basis
throughout the following calendar
month at the agreed upon rate. The IPI
bidweek index is published on the first
business day of the calendar month in
which the natural gas is to be delivered.
The size of the PGE contract is 2,500
million British thermal units (‘‘mmBtu’’),
and the unit of trading is any multiple
of 2,500 mmBtu. The PGE contract is
listed for up to 72 calendar months
12 17
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commencing with the next calendar
month.
The Henry Hub,13 which is located in
Erath, Louisiana, is the primary cash
market trading and distribution center
for natural gas in the United States. It
also is the delivery point and pricing
basis for the NYMEX’s actively traded,
physically-delivered natural gas futures
contract, which is the most important
pricing reference for natural gas in the
United States. The Henry Hub, which is
operated by Sabine Pipe Line, LLC,
serves as a juncture for 13 different
pipelines. These pipelines bring in
natural gas from fields in the Gulf Coast
region and ship it to major consumption
centers along the East Coast and
Midwest. The throughput shipping
capacity of the Henry Hub is 1.8 trillion
mmBtu per day.
In addition to the Henry Hub, there
are a number of other locations where
natural gas is traded. In 2008, there were
33 natural gas market centers in North
America.14 Some of the major trading
centers include Alberta, Northwest
Rockies, Southern California border and
the Houston Ship Channel. For
locations that are directly connected to
the Henry Hub by one or more pipelines
and where there typically is adequate
shipping capacity, the price at the other
locations usually directly tracks the
price at the Henry Hub, adjusted for
transportation costs. However, at other
locations that are not directly connected
to the Henry Hub or where shipping
capacity is limited, the prices at those
locations often diverge from the Henry
Hub price. Furthermore, one local price
may be significantly different than the
price at another location even though
the two markets’ respective distances
from the Henry Hub are the same. The
reason for such pricing disparities is
that a given location may experience
supply and demand factors that are
specific to that region, such as
differences in pipeline shipping
capacity, unusually high or low demand
for heating or cooling or supply
disruptions caused by severe weather.
As a consequence, local natural gas
prices can differ from the Henry Hub
price by more than the cost of shipping
and such price differences can vary in
an unpredictable manner.
The PG&E Citygate is part of the
Golden Gate Market Center, which is
located in Northern California. The
Golden Gate Market Center offers seven
13 The term ‘‘hub’’ refers to a juncture where two
or more natural gas pipelines are connected. Hubs
also serve as pricing points for natural gas at the
particular locations.
14 See https://www.eia.doe.gov/pub/oil_gas/
natural_gas/feature_articles/2009/ngmarketcenter/
ngmarketcenter.pdf.
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different transaction points, which are
Malin, Citygate, Kern River Station,
High Desert Lateral, Daggett, Southern
Trails and Topock. Citygate serves as
interconnection between the backbone
pipeline system and the local
transmission and distribution lines.15
The Golden Gate Market Center had an
estimated throughput capacity of two
billion cubic feet per day in 2008.
Moreover, the number of pipeline
interconnections at the Golden Gate
Market Center was nine in 2008, up
from eight in 2003. Lastly, the pipeline
interconnection capacity of the Golden
Gate Market Center in 2008 was 6
billion cubic feet per day, which
constituted a 32 percent increase over
the pipeline interconnection capacity in
2003.16 The PG&E Citygate is far
removed from the Henry Hub and is not
directly connected to the Henry Hub by
an existing pipeline.
The local price at the PG&E Citygate
typically differs from the price at the
Henry Hub. Thus, the price of the Henry
Hub physically-delivered futures
contract is an imperfect proxy for the
PG&E Citygate price. Moreover,
exogenous factors, such as adverse
weather, can cause the PG&E Citygate
gas price to differ from the Henry Hub
price by an amount that is more or less
than the cost of shipping, making the
NYMEX Henry Hub futures contract
even less precise as a hedging tool than
desired by market participants. Basis
contracts 17 allow traders to more
accurately discover prices at alternative
locations and hedge price risk that is
associated with natural gas at such
locations. In this regard, a position at a
local price for an alternative location
can be established by adding the
appropriate basis swap position to a
position taken in the NYMEX
physically-delivered Henry Hub
contract (or in the NYMEX or ICE Henry
Hub look-alike contract, which cash
settle based on the NYMEX physicallydelivered natural gas contract’s final
settlement price).
In its October 9, 2009, Federal
Register notice, the Commission
identified material price reference, price
linkage and material liquidity as the
potential SPDC criteria applicable to the
15 The cash market transactions included in the
comparable Platts index are those fixed-price gas
deliveries from Pacific Gas and Electric’s intrastate
transmission system to citygates on PG&E’s local
distribution system in Northern California.
16 See https://www.eia.doe.gov/pub/oil_gas/
natural_gas/feature_articles/2009/ngmarketcenter/
ngmarketcenter.pdf
17 Basis contracts denote the difference in the
price of natural gas at a specified location minus the
price of natural gas at the Henry Hub. The
differential can be either a positive or negative
value.
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PGE contract. Each of these criteria is
discussed below.18
1. Material Price Reference Criterion
The Commission’s October 9, 2009,
Federal Register notice identified
material price reference as a potential
basis for a SPDC determination with
respect to this contract. The
Commission considered the fact that ICE
maintains exclusive rights over IPI’s
bidweek price indices. As a result, no
other exchange can offer such a basis
contract based on IPI’s PG&E Citygate
bidweek index. While other third-party
price providers produce natural gas
price indices for this and other trading
centers, market participants indicate
that the IPI PG&E Citygate bidweek
index is highly regarded for this
particular location and should market
participants wish to establish a hedged
position based on this index, they
would need to do so by taking a position
in the ICE PGE swap since ICE has the
right to the IPI index for cash settlement
purposes. In addition, ICE sells its price
data to market participants in a number
of different packages which vary in
terms of the hubs covered, time periods,
and whether the data are daily only or
historical. For example, ICE offers ‘‘West
Gas End of Day’’ and ‘‘OTC Gas End of
Day’’ 19 with access to all price data or
just current prices plus a selected
number of months (i.e., 12, 24, 36 or 48
months) of historical data. These two
packages include price data for the PGE
contract.
The Commission will rely on one of
two sources of evidence—direct or
indirect—to determine that the price of
a contract was being used as a material
price reference and therefore, serving a
significant price discovery function.20
With respect to direct evidence, the
Commission will consider the extent to
which, on a frequent and recurring
basis, cash market bids, offers or
transactions are directly based on or
quoted at a differential to, the prices
generated on the ECM in question.
Direct evidence may be established
when cash market participants are
quoting bid or offer prices or entering
into transactions at prices that are set
either explicitly or implicitly at a
differential to prices established for the
contract in question. Cash market prices
are set explicitly at a differential to the
section 2(h)(3) contract when, for
18 As noted above, the Commission did not find
an indication of arbitrage in connection with this
contract; accordingly, that criterion was not
discussed in reference to the PGE contract.
19 The OTC Gas End of Day dataset includes daily
settlement prices for natural gas contracts listed for
all points in North America.
20 17 CFR part 36, appendix A.
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23713
instance, they are quoted in dollars and
cents above or below the reference
contract’s price. Cash market prices are
set implicitly at a differential to a
section 2(h)(3) contract when, for
instance, they are arrived at after adding
to, or subtracting from the section
2(h)(3) contract, but then quoted or
reported at a flat price. With respect to
indirect evidence, the Commission will
consider the extent to which the price
of the contract in question is being
routinely disseminated in widely
distributed industry publications—or
offered by the ECM itself for some form
of remuneration—and consulted on a
frequent and recurring basis by industry
participants in pricing cash market
transactions.
The PG&E Citygate is a major trading
center for natural gas in the United
States. Traders, including producers,
keep abreast of the prices of the PGE
contract when conducting cash deals.
These traders look to a competitively
determined price as an indication of
expected values of natural gas at the
PG&E Citygate when entering into cash
market transaction for natural gas,
especially those trades providing for
physical delivery in the future. Traders
use the ICE PGE contract, as well as
other ICE basis swap contracts, to hedge
cash market positions and
transactions—activities which enhance
the PGE contract’s price discovery
utility. The substantial volume of
trading and open interest in the PGE
contract appears to attest to its use for
this purpose. While the PGE contract’s
settlement prices may not be the only
factor influencing spot and forward
transactions, natural gas traders
consider the ICE price to be a critical
factor in conducting OTC transactions.21
As a result, the PGE contract satisfies
the direct price reference test.
In terms of indirect price reference,
ICE sells the PGE contract’s prices as
part of a broad package. The
Commission notes that the PG&E
Citygate is a major natural gas trading
point, and the PGE contract’s prices are
well regarded in the industry as
indicative of the value of natural gas at
the PG&E Citygate. Accordingly, the
Commission believes that it is
reasonable to conclude that market
participants are purchasing the data
packages that include the PGE contract’s
prices in substantial part because the
PGE contract prices have particular
value to them. Moreover, such prices are
21 In addition to referencing ICE prices, natural
gas market firms participating in the PG&E Citygate
market may rely on other cash market quotes as
well as industry publications and price indices that
are published by third-party price reporting firms
when entering into natural gas transactions.
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consulted on a frequent and reoccurring
basis by industry participants in pricing
cash market transactions. In light of the
above, the PGE contract meets the
indirect price reference test.
NYMEX lists a futures contract that is
comparable to the ICE PGE contract on
its ClearPort platform. However, unlike
the ICE contract, none of the trades in
the NYMEX, PG&E Citygate Basis Swap
(Platts IFERC) futures contract are
executed in NYMEX’s centralized
marketplace; instead, all of the
transactions originate as bilateral swaps
that are submitted to NYMEX for
clearing. The daily settlement prices of
the NYMEX PG&E Citygate Basis Swap
futures contract are influenced, in part,
by the daily settlement prices of the ICE
PGE contract. This is because NYMEX
determines the daily settlement prices
for its natural gas basis swap contracts
through a survey of cash market voice
brokers. Voice brokers, in turn, refer to
the ICE PGE price, among other
information, as an important indicator
as to where the market is trading.
Therefore, the ICE PGE price influences
the settlement price for the NYMEX
PG&E Citygate Basis Swap futures
contract. This is supported by an
analysis of the daily settlement prices
for the NYMEX and ICE PG&E Citygate
contracts. In this regard, 97 percent of
the daily settlement prices for the
NYMEX PG&E Citygate Basis Swap
futures contract are within one standard
deviation of the PGE contract’s price
settlement prices.
Lastly, the fact that the PGE contract
does not meet the price linkage criterion
(discussed below) bolsters the argument
for material price reference. As noted
above, the Henry Hub is the pricing
reference for natural gas in the United
States. However, regional market
conditions may cause the price of
natural gas in another area of the
country to diverge by more than the cost
of transportation, thus making the
Henry Hub price an imperfect proxy for
the local gas price. The more variable
the local natural gas price is, the more
traders need to accurately hedge their
price risk. Basis swap contracts provide
a means of more accurately pricing
natural gas at a location other than the
Henry Hub. An analysis of PG&E
Citygate natural gas prices showed that
55 percent of the observations were
more than 2.5 percent different than the
contemporaneous Henry Hub prices.
The average PG&E Citygate basis value
between January 2008 and September
2009 was ¥$0.16 per mmBtu with a
variance of $0.10 per mmBtu.
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i. Federal Register Comments
ICE stated in its comment letter that
the PGE contract does not meet the
material price reference criterion for
SPDC determination. ICE argued that
the Commission appeared to base the
case that the PGE contract is potentially
a SPDC on two disputable assertions.
First, in issuing its notice of intent to
determine whether the PGE contract is
a SPDC, the CFTC cited a general
conclusion in its ECM study ‘‘that
certain market participants referred to
ICE as a price discovery market for
certain natural gas contracts.’’ 22 ICE
states that CFTC’s reason is ‘‘hard to
quantify as the ECM report does not
mention’’ this contract as a potential
SPDC. ‘‘It is unknown which market
participants made this statement in
2007 or the contracts that were
referenced.’’ 23 In response to the above
comment, the Commission notes that it
cited the ECM study’s general finding
that some ICE natural gas contracts
appear to be regarded as price discovery
markets merely as an indicia that an
investigation of certain ICE contracts
may be warranted, and was not
intended to serve as the sole basis for
determining whether or not a particular
contract meets the material price
reference criterion.
Second, ICE argued that the
Commission should not base a
determination that the PGE contract is a
SPDC on the fact that this contract has
the exclusive right to base its settlement
on the IPI PG&E Citygate Index price.
While the Commission acknowledges
that there are other firms that produce
price indices for the PG&E Citygate, as
it notes above, market participants
indicate that the IPI Index is very highly
regarded and should they wish to
establish a hedged position based on
this index, they would need to do so by
taking a position in the ICE PGE swap
since ICE has the exclusive right to use
the IPI index.24
WGCEF, NGSA, EI and FIEG all stated
that the PGE contract does not satisfy
the material price reference criterion.
22 CL
03.
03.
24 Futures and swaps based on other PG&E
Citygate indices have not met with the same market
acceptance as the PGE contract. For example,
NYMEX lists a basis swap contract that is
comparable to the PGE contract with the exception
that it uses a different price index for cash
settlement. Open interest as of September 30, 2009,
was approximately 19,000 contracts in the NYMEX
PG&E Citygate Basis Swap contract versus about
167,000 contracts in ICE’s PGE contract. Moreover,
there has been no centralized-market trading in the
NYMEX PG&E Citygate Basis Swap contract, so that
contract does not serve as a source of price
discovery for cash market traders with natural gas
at that location.
23 CL
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The commenters argued that other
contracts (physical or financial) are not
indexed based on the ICE PGE contract
price, but rather are indexed based on
the underlying cash price series against
which the ICE PGE contract is settled.
Thus, they contend that the underlying
cash price series is the authentic
reference price and not the ICE contract
itself. The Commission believes that this
interpretation of price reference is too
limiting in that it only considers the
final index value on which the contract
is cash settled after trading ceases.
Instead, the Commission believes that a
cash-settled derivatives contract could
meet the price reference criteria if
market participants ‘‘consult on a
frequent and recurring basis’’ the
derivatives contract when pricing
forward, fixed-price commitments or
other cash-settled derivatives that seek
to ‘‘lock in’’ a fixed price for some future
point in time to hedge against adverse
price movements.
As noted above, the PG&E Citygate is
a major trading center for natural gas in
North America. Traders, including
producers, keep abreast of the prices of
the PGE contract when conducting cash
deals. These traders look to a
competitively determined price as an
indication of expected values of natural
gas at the PG&E Citygate when entering
into cash market transaction for natural
gas, especially those trades that provide
for physical delivery in the future.
Traders use the ICE PGE contract to
hedge cash market positions and
transactions, which enhances the PGE
contract’s price discovery utility. While
the PGE contract’s settlement prices
may not be the only factor influencing
spot and forward transactions, natural
gas traders consider the ICE price to be
a crucial factor in conducting OTC
transactions.
Both EI and WGCEF stated that
publication of price data in a package
format is a weak justification for
material price reference. These
commenters argue that market
participants generally do not purchase
ICE data sets for one contract’s prices,
such as those for the PGE contract.
Instead, traders are interested in the
settlement prices, so the fact that ICE
sells the PGE prices as part of a broad
package is not conclusive evidence that
market participants are buying the ICE
data sets because they find the PGE
prices have substantial value to them.
The Commission notes that the PG&E
Citygate is a major natural gas trading
point, and the PGE contract’s prices are
well regarded in the industry as
indicative of the value of natural gas at
the PG&E Citygate. Accordingly, the
Commission believes that it is
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reasonable to conclude that market
participants are purchasing the data
packages that include the PGE contract’s
prices in substantial part because the
PGE contract prices have particular
value to them.
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ii. Conclusion Regarding Material Price
Reference
Based on the above, the Commission
finds that the PGE contract meets the
material price reference criterion
because cash market transactions are
being priced on a frequent and recurring
basis at a differential to the PGE
contract’s price (direct evidence).
Moreover, the ECM sells the PGE
contract’s price data to market
participants and it is reasonable to
conclude that market participants are
purchasing the data packages that
include the PGE contract’s prices in
substantial part because the PGE
contract prices have particular value to
them. Furthermore, such prices are
consulted on a frequent and reoccurring
basis by industry participants in pricing
cash market transactions (indirect
evidence).
2. Price Linkage Criterion
In its October 9, 2009, Federal
Register notice, the Commission
identified price linkage as a potential
basis for a SPDC determination with
respect to the PGE contract. In this
regard, the final settlement of the PGE
contract is based, in part, on the final
settlement price of the NYMEX’s
physically-delivered natural gas futures
contract, where the NYMEX is
registered with the Commission as a
DCM.
The Commission’s Guidance on
Significant Price Discovery Contracts 25
notes that a ‘‘price-linked contract is a
contract that relies on a contract traded
on another trading facility to settle,
value or otherwise offset the pricelinked contract.’’ Furthermore, the
Guidance notes that, ‘‘[f]or a linked
contract, the mere fact that a contract is
linked to another contract will not be
sufficient to support a determination
that a contract performs a significant
price discovery function. To assess
whether such a determination is
warranted, the Commission will
examine the relationship between
transaction prices of the linked contract
and the prices of the referenced
contract. The Commission believes that
where material liquidity exists, prices
for the linked contract would be
observed to be substantially the same as
or move substantially in conjunction
with the prices of the referenced
25 Appendix
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contract.’’ Furthermore, the Guidance
proposes a threshold price relationship
such that prices of the ECM linked
contract will fall within a 2.5 percent
price range for 95 percent of
contemporaneously determined closing,
settlement or other daily prices over the
most recent quarter. Finally, the
Commission also stated in the Guidance
that it would consider a linked contract
that has a trading volume equivalent to
5 percent of the volume of trading in the
contract to which it is linked to have
sufficient volume potentially to be
deemed a SPDC (‘‘minimum threshold’’).
To assess whether the PGE contract
meets the price linkage criterion,
Commission staff obtained price data
from ICE and performed the statistical
tests cited above. Staff found that while
the PG&E Citygate price is determined,
in part, by the final settlement price of
the NYMEX physically-delivered
natural gas futures contract (a DCM
contract), the PG&E Citygate price is not
within 2.5 percent of the settlement
price of the corresponding NYMEX
Henry Hub natural gas futures contract
on 95 percent of the days. Specifically,
during the third quarter of 2009, 45
percent of the PG&E Citygate natural gas
prices derived from the ICE basis values
were within 2.5 percent of the daily
settlement price of the NYMEX Henry
Hub futures contract. In addition, staff
finds that the PGE contract fails to meet
the volume threshold requirement. In
particular, the total trading volume in
the NYMEX Natural Gas contract during
the third quarter of 2009 was 14,022,963
contracts, with 5 percent of that number
being 701,148 contracts. The number of
trades on the ICE centralized market in
the PGE contract during the same period
was 108,468 contracts (equivalent to
27,117 NYMEX contracts, given the size
difference).26 Thus, centralized-market
trades in the PGE contract amounted to
less than the minimum threshold.
Due to the specific criteria that a
given ECM contract must meet to fulfill
the price linkage criterion, the
requirements, for all intents and
purposes, exclude ECM contracts that
are not near facsimiles of DCM
contracts. That is, even though an ECM
contract may specifically use a DCM
contract’s settlement price to value a
position, which is the case of the PGE
contract, a substantive difference
between the two price series would rule
out the presence of price linkage. In this
regard, an ECM contract that is priced
and traded as if it is a functional
equivalent of a DCM contract likely will
have a price series that mirrors that of
the corresponding DCM contract. In
contrast, for contracts that are not lookalikes of DCM contracts, it is reasonable
to expect that the two price series would
be divergent. The PG&E Citygate and the
Henry Hub are located in two different
areas of the United States. The Henry
Hub primarily is a supply center while
the PG&E Citygate primarily is a
demand center. These differences
contribute to the divergence between
the two price series and, as discussed
below, increase the likelihood that the
‘‘basis’’ contract is used for material
price reference.
i. Federal Register Comments
NGSA 27 stated that the PGE contract
does not meet the price linkage criterion
because basis contracts, including the
PGE contract, are not equivalent to the
NYMEX physically-delivered Henry
Hub contract. EI 28 also noted that the
PGE and NYMEX natural gas contracts
are not economically equivalent and
that the PGE contract’s volume is too
low to affect the NYMEX natural gas
futures contract. WGCEF 29 stated that
the PG&E Citygate price is determined,
in part, by the final settlement price of
the NYMEX Henry Hub futures contract.
However, WGCEF goes on to state that
the PGE contract ‘‘(a) is not substantially
the same as the NYMEX [natural gas
futures contract] * * * nor (b) does it
move substantially in conjunction’’ with
the NYMEX natural gas futures contract.
ICE 30 opined that the PGE contract’s
trading volume is too low to affect the
price discovery process for the NYMEX
natural gas futures contract. In addition,
ICE states that the PGE contract simply
reflects a price differential between
PG&E Citygate and the Henry Hub;
‘‘there is no price linkage as
contemplated by Congress or the CFTC
in its rulemaking.’’ FIEG 31
acknowledged that the PGE contract is
a locational spread that is based in part
on the NYMEX natural gas futures price,
but also questioned the significance of
this fact relative to the price linkage
criterion since the key component of the
spread is the price at the PG&E Citygate
location and not the NYMEX physicallydelivered natural gas futures price.
ii. Conclusion Regarding the Price
Linkage Criterion
Based on the above, the Commission
finds that the PGE contract does not
meet the price linkage criterion because
27 CL
05.
04.
29 CL 02.
30 CL 03.
31 CL 07.
28 CL
26 The PGE contract is one-quarter the size of the
NYMEX Henry Hub physically-delivered futures
contract.
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it fails the price relationship and
volume tests provided for in the
Commission’s Guidance.
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3. Material Liquidity Criterion
To assess whether the PGE contract
meets the material liquidity criterion,
the Commission first examined volume
and open interest data provided to it by
ICE as a general measurement of the
PGE market’s size and potential
importance, and second performed a
statistical analysis to measure the effect
that changes to PGE prices potentially
may have on prices for the NYMEX
Henry Hub Natural Gas (a DCM
contract), the ICE NWP Financial Basis
contract (an ECM contract) and the ICE
Malin Financial Basis contract (an ECM
contract).32
The Commission’s Guidance
(Appendix A to Part 36) notes that
‘‘[t]raditionally, objective measures of
trading such as volume or open interest
have been used as measures of
liquidity.’’ In this regard, the
Commission in its October 9, 2009,
Federal Register notice referred to
second quarter 2009 trading statistics
that ICE had submitted for its PGE
contract. Based upon on a required
quarterly filing made by ICE on July 27,
2009, the total number of PGE trades
executed on ICE’s electronic trading
platform was 1,142 in the second
quarter of 2009, resulting in a daily
average of 17.8 trades. During the same
period, the PGE contract had a total
trading volume on ICE’s electronic
trading platform of 99,418 contracts and
an average daily trading volume of
1,553.4 contracts. Moreover, the open
interest as of June 30, 2009, was 150,299
contracts, which includes trades
executed on ICE’s electronic trading
platform, as well as trades executed off
of ICE’s electronic trading platform and
then brought to ICE for clearing.33
Subsequent to the October 9, 2009,
Federal Register notice, ICE submitted
another quarterly notification filed on
November 13, 2009,34 with updated
trading statistics. Specifically, with
respect to its PGE contract, 1,514
separate trades occurred on its
electronic platform in the third quarter
32 As noted above, the material liquidity criterion
speaks to the effect that transactions in the potential
SPDC may have on trading in ‘‘agreements,
contracts and transactions listed for trading on or
subject to the rules of a designated contract market,
a derivatives transaction execution facility, or an
electronic trading facility operating in reliance on
the exemption in section 2(h)(3) of the Act.’’
33 ICE does not differentiate between open
interest created by a transaction executed on its
trading platform versus that created by a transaction
executed off its trading platform.
34 See Commission Rule 36.3(c)(2), 17 CFR
36.3(c)(2).
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of 2009, resulting in a daily average of
22.9 trades. During the same period, the
PGE contract had a total trading volume
on its electronic platform of 108,468
contracts (which was an average of
1,643 contracts per day).35 As of
September 30, 2009, open interest in the
PGE contract was 166,981 36 contracts.
Reported open interest included
positions resulting from trades that were
executed on ICE’s electronic platform,
as well as trades that were executed off
of ICE’s electronic platform and brought
to ICE for clearing.
In the Guidance, the Commission
stated that material liquidity can be
identified by the impact liquidity
exhibits through observed prices. Thus,
to make a determination whether the
PGE contract has such material impact,
the Commission reviewed the relevant
trading statistics (noted above). In this
regard, the average number trades per
day in the second and third quarters of
2009 were above the minimum
reporting level (5 trades per day).
Moreover, trading activity in the PGE
contract, as characterized by total
quarterly volume, indicates that the PGE
contract experiences trading activity
that generally exceeds that found in
thinly-traded markets.37 Thus, it is
reasonable to infer that the PGE contract
could have a material effect on other
ECM contracts or on DCM contracts.
To measure the effect that the PGE
contract potentially could have on a
DCM contract, or on another ECM
contract, Commission staff performed a
statistical analysis 38 using daily
35 By way of comparison, the number of contracts
traded in the PGE contract is similar to that
exhibited on a liquid futures market and is roughly
equivalent to the volume of trading for the NYMEX
Palladium futures contract during this period.
36 By way of comparison, open interest in the PGE
contract is similar to that exhibited on a liquid
futures market and is roughly equivalent to that in
the Chicago Board of Trade’s soybean meal futures
contract.
37 Staff has advised the Commission that in its
experience, a thinly-traded contract is, generally,
one that has a quarterly trading volume of 100,000
contracts or less. In this regard, in the third quarter
of 2009, physical commodity futures contracts with
trading volume of 100,000 contracts or fewer
constituted less than one percent of total trading
volume of all physical commodity futures contracts.
38 Specifically, Commission staff econometrically
estimated a vector autoregression (VAR) model
using daily settlement prices. A vector
autoregression model is an econometric model used
to capture the evolution and the interdependencies
between multiple time series, generalizing the
univariate autoregression models. The estimated
model displays strong diagnostic evidence of
statistical adequacy. In particular, the model’s
impulse response function was shocked with a onetime rise in PGE contract’s price. The simulation
results suggest that, on average over the sample
period, a one-percent rise in the PGE contract’s
price elicited a 1.1 percent increase in the NYMEX
Henry Hub and Malin prices, as well as a one
percent increase in the Rockies contract’s price.
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settlement prices (between January 2,
2008, and September 30, 2009) for the
PGE contract, as well as for the NYMEX
Henry Hub natural gas contract (a DCM
contract) and the ICE NWP Rockies
Financial Basis and ICE Malin Financial
Basis contracts (ECM contracts). The
simulation results suggest that, on
average over the sample period, a one
percent rise in the PGE contract’s price
elicited a 1.1 percent increase in each of
the NYMEX Henry Hub and ICE Malin
prices, as well as a 1 percent increase in
the Rockies price.
i. Federal Register Comments
As noted above, comments were
received from seven individuals and
organizations, with five comments being
directly applicable to the SPDC
determination of the ICE PGE contract.
WGCEF, EI, FIEG, ICE and NGSA
generally agreed that the PGE contract
does not meet the material liquidity
criterion.
WGCEF 39 and NGSA 40 both stated
that the PGE contract does not
materially affect other contracts that are
listed for trading on DCMs or ECMs, as
well as other over-the-counter contracts.
Instead, the PGE contract is influenced
by the underlying PG&E Citygate cash
price index and the final settlement
price of the NYMEX Henry Hub natural
gas futures contract, not vice versa.
FIEG 41 stated that the PGE contract
cannot have a material effect on NYMEX
contract because the PGE contract trades
on a differential and represents ‘‘one leg
(and not the relevant leg) of the
locational spread.’’ The Commission’s
statistical analysis shows that changes
in the ICE PGE contract’s price
significantly influences the prices of
other contracts that are traded on DCMs
and ECMs.
First, ICE opined that the Commission
‘‘seems to have adopted a five trade-perday test to determine whether a contract
is materially liquid. It is worth noting
that ICE originally suggested that the
CFTC use a five trades-per-day
threshold as the basis for an ECM to
report trade data to the CFTC.’’ In this
regard, the Commission adopted a five
trades-per-day threshold as a reporting
requirement to enable it to
‘‘independently be aware of ECM
contracts that may develop into SPDCs’’
These multipliers of response emerge with
noticeable statistical strength or significance. Based
on such long run sample patterns, if the PGE
contract’s price rises by 10 percent, then the price
of NYMEX Henry Hub natural gas futures contract,
as well as those for the ICE basis swap contracts
based on the Rockies and Malin hubs, each would
rise by about 10 percent to 11 percent.
39 CL 02.
40 CL 05.
41 CL 07.
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rather than solely relying upon an ECM
on its own to identify any such potential
SPDCs to the Commission. Thus, any
contract that meets this threshold may
be subject to scrutiny as a potential
SPDC. As noted above, the Commission
is basing a finding of material liquidity
for the ICE PGE contract, in part, on the
fact that there have been more than 20
trades per day on average in the PGE
contract during the third quarter of
2009, which is quadruple the five
trades-per-day that is cited in the ICE
comment. In addition, the Commission
notes that the number of contracts per
transaction in the PGE contract is high
(approximately 72 contracts per
transaction) and thus, as noted, trading
volume (measured in contract units) is
substantial. The PGE contract also has
significant open interest.
ICE implied that the statistics
provided by ICE were misinterpreted
and misapplied by the Commission. In
particular, ICE stated that the volume
figures used in the Commission’s
analysis (cited above) ‘‘include trades
made in all [72] months of * * * [the]
contract’’ as well as in strips of contract
months, and a ‘‘more appropriate
method of determining liquidity is to
examine the activity in a single traded
month or strip of a given contract.’’ ICE
stated that only about 25 to 40 percent
of the trades occurred in the single most
liquid, usually prompt, month of the
contract.
It is the Commission’s opinion that
liquidity, as it pertains to the PGE
contract, is typically a function of
trading activity in particular lead
months and, given sufficient liquidity in
such months, the PGE contract itself
would be considered liquid. ICE’s
analysis of its own trade data confirms
this to be the case for the PGE contract,
and thus, the Commission believes that
it applied the statistical data cited above
in an appropriate manner for gauging
material liquidity.
In addition, EI and ICE stated that the
trades-per-day statistics that it provided
to the Commission in its quarterly filing
and which are cited above includes
2(h)(1) transactions, which were not
completed on the electronic trading
platform and should not be considered
in the SPDC determination process.
Commission staff asked ICE to review
the data it sent in its quarterly filings.
In response, ICE confirmed that the
volume data it provided and which the
Commission cited in its October 9, 2009,
Federal Register notice, as well as the
additional volume information it cites
above, includes only transaction data
executed on ICE’s electronic trading
platform. The Commission
acknowledges that the open interest
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information it cites above includes
transactions made off the ICE
platform.42 However, once open interest
is created, there is no way for ICE to
differentiate between ‘‘on-exchange’’
versus ‘‘off-exchange’’ created positions,
and all such positions are fungible with
one another and may be offset in any
way agreeable to the position holder
regardless of how the position was
initially created.
ii. Conclusion Regarding Material
Liquidity
Based on the above, the Commission
concludes that the PGE contract meets
the material liquidity criterion in that
there is sufficient trading activity in the
PGE contract to have a material effect on
‘‘other agreements, contracts or
transactions listed for trading on or
subject to the rules of a designated
contract market * * * or an electronic
trading facility operating in reliance on
the exemption in section 2(h)(3) of the
Act’’ (that is, an ECM).
4. Overall Conclusion
After considering the entire record in
this matter, including the comments
received, the Commission has
determined that the PGE contract
performs a significant price discovery
function under two of the four criteria
established in section 2(h)(7) of the
CEA. Although the Commission has
determined that the PGE contract does
not meet the price linkage criterion at
this time, the Commission has
concluded that the PGE contract does
meet both the material liquidity and
material price reference criteria.
Accordingly, the Commission is issuing
the attached Order declaring that the
PGE contract is a SPDC.
Issuance of this Order signals the
immediate effectiveness of the
Commission’s authorities with respect
to ICE as a registered entity in
connection with its PGE contract,43 and
triggers the obligations, requirements—
both procedural and substantive—and
timetables prescribed in Commission
rule 36.3(c)(4) for ECMs.
V. Related Matters
a. Paperwork Reduction Act
The Paperwork Reduction Act of 1995
(‘‘PRA’’) 44 imposes certain requirements
on Federal agencies, including the
Commission, in connection with their
42 Supplemental data supplied by the ICE
confirmed that block trades in the third quarter of
2009 were in addition to the trades that were
conducted on the electronic platform; block trades
comprised 63.4 percent of all transactions in the
PGE contract.
43 See 73 FR 75888, 75893 (Dec. 12, 2008).
44 44 U.S.C. 3507(d).
PO 00000
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Fmt 4703
Sfmt 4703
23717
conducting or sponsoring any collection
of information as defined by the PRA.
Certain provisions of Commission rule
36.3 impose new regulatory and
reporting requirements on ECMs,
resulting in information collection
requirements within the meaning of the
PRA. OMB previously has approved and
assigned OMB control number 3038–
0060 to this collection of information.
b. Cost-Benefit Analysis
Section 15(a) of the CEA 45 requires
the Commission to consider the costs
and benefits of its actions before issuing
an order under the Act. By its terms,
section 15(a) does not require the
Commission to quantify the costs and
benefits of an order or to determine
whether the benefits of the order
outweigh its costs; rather, it requires
that the Commission ‘‘consider’’ the
costs and benefits of its actions. Section
15(a) further specifies that the costs and
benefits shall be evaluated in light of
five broad areas of market and public
concern: (1) Protection of market
participants and the public; (2)
efficiency, competitiveness and
financial integrity of futures markets; (3)
price discovery; (4) sound risk
management practices; and (5) other
public interest considerations. The
Commission may in its discretion give
greater weight to any one of the five
enumerated areas and could in its
discretion determine that,
notwithstanding its costs, a particular
order is necessary or appropriate to
protect the public interest or to
effectuate any of the provisions or
accomplish any of the purposes of the
Act. The Commission has considered
the costs and benefits in light of the
specific provisions of section 15(a) of
the Act and has concluded that the
Order, required by Congress to
strengthen federal oversight of exempt
commercial markets and to prevent
market manipulation, is necessary and
appropriate to accomplish the purposes
of section 2(h)(7) of the Act.
When a futures contract begins to
serve a significant price discovery
function, that contract, and the ECM on
which it is traded, warrants increased
oversight to deter and prevent price
manipulation or other disruptions to
market integrity, both on the ECM itself
and in any related futures contracts
trading on DCMs. An Order finding that
a particular contract is a SPDC triggers
this increased oversight and imposes
obligations on the ECM calculated to
accomplish this goal. The increased
oversight engendered by the issue of a
SPDC Order increases transparency and
45 7
U.S.C. 19(a).
E:\FR\FM\04MYN1.SGM
04MYN1
23718
Federal Register / Vol. 75, No. 85 / Tuesday, May 4, 2010 / Notices
helps to ensure fair competition among
ECMs and DCMs trading similar
products and competing for the same
business. Moreover, the ECM on which
the SPDC is traded must assume, with
respect to that contract, all the
responsibilities and obligations of a
registered entity under the CEA and
Commission regulations. Additionally,
the ECM must comply with nine core
principles established by section 2(h)(7)
of the Act—including the obligation to
establish position limits and/or
accountability standards for the SPDC.
Section 4(i) of the CEA authorizes the
Commission to require reports for
SPDCs listed on ECMs. These increased
responsibilities, along with the CFTC’s
increased regulatory authority, subject
the ECM’s risk management practices to
the Commission’s supervision and
oversight and generally enhance the
financial integrity of the markets.
c. Regulatory Flexibility Act
The Regulatory Flexibility Act
(‘‘RFA’’) 46 requires that agencies
consider the impact of their rules on
small businesses. The requirements of
CEA section 2(h)(7) and the Part 36
rules affect ECMs. The Commission
previously has determined that ECMs
are not small entities for purposes of the
RFA.47 Accordingly, the Chairman, on
behalf of the Commission, hereby
certifies pursuant to 5 U.S.C. 605(b) that
this Order, taken in connection with
section 2(h)(7) of the Act and the Part
36 rules, will not have a significant
impact on a substantial number of small
entities.
mstockstill on DSKH9S0YB1PROD with NOTICES
VI. Order
a. Order Relating to the ICE PG&E
Citygate Financial Basis Contract
After considering the complete record
in this matter, including the comment
letters received in response to its
request for comments, the Commission
has determined to issue the following
Order:
The Commission, pursuant to its
authority under section 2(h)(7) of the
Act, hereby determines that the PG&E
Citygate Financial Basis contract, traded
on the IntercontinentalExchange, Inc.,
satisfies the statutory material liquidity
and material price reference criteria for
significant price discovery contracts.
Consistent with this determination, and
effective immediately, the
IntercontinentalExchange, Inc., must
comply with, with respect to the PG&E
Citygate Financial Basis contract, the
nine core principles established by new
section 2(h)(7)(C). Additionally, the
46 5
U.S.C. 601 et seq.
FR 42256, 42268 (Aug. 10, 2001).
47 66
VerDate Mar<15>2010
18:58 May 03, 2010
Jkt 220001
IntercontinentalExchange, Inc., shall be
and is considered a registered entity 48
with respect to the PG&E Citygate
Financial Basis contract and is subject
to all the provisions of the Commodity
Exchange Act applicable to registered
entities. Further, the obligations,
requirements and timetables prescribed
in Commission rule 36.3(c)(4) governing
core principle compliance by the
IntercontinentalExchange, Inc.,
commence with the issuance of this
Order.49
Issued in Washington, DC on April 28,
2010, by the Commission.
David A. Stawick,
Secretary of the Commission.
[FR Doc. 2010–10305 Filed 5–3–10; 8:45 am]
BILLING CODE P
COMMODITY FUTURES TRADING
COMMISSION
Orders Finding That the Henry
Financial Basis Contract, Henry
Financial Index Contract and Henry
Financial Swing Contract Traded on
the IntercontinentalExchange, Inc., Do
Not Perform a Significant Price
Discovery Function
AGENCY: Commodity Futures Trading
Commission.
ACTION: Final orders.
SUMMARY: On October 20, 2009, the
Commodity Futures Trading
Commission (‘‘CFTC’’ or ‘‘Commission’’)
published for comment in the Federal
Register 1 a notice of its intent to
undertake a determination whether the
Henry Financial Basis (‘‘HEN’’) contract,
Henry Financial Index (‘‘HIS’’) contract
and Henry Financial Swing (‘‘HHD’’)
contract traded on the
IntercontinentalExchange, Inc. (‘‘ICE’’),
an exempt commercial market (‘‘ECM’’)
under sections 2(h)(3)–(5) of the
Commodity Exchange Act (‘‘CEA’’ or the
‘‘Act’’), perform a significant price
discovery function pursuant to section
2(h)(7) of the CEA. The Commission
undertook this review based upon an
initial evaluation of information and
data provided by ICE as well as other
available information. The Commission
has reviewed the entire record in this
matter, including all comments
received, and has determined to issue
48 7
U.S.C. 1a(29).
ICE already lists for trading a contract
(i.e., the Henry Financial LD1 Fixed Price contract)
that was previously declared by the Commission to
be a SPDC, ICE must submit a written
demonstration of compliance with the Core
Principles within 30 calendar days of the date of
this Order. 17 CFR 36.3(c)(4).
1 74 FR 53720 (October 20, 2009).
49 Because
PO 00000
Frm 00055
Fmt 4703
Sfmt 4703
orders finding that the HEN, HIS and
HHD contracts do not perform a
significant price discovery function.
Authority for this action is found in
section 2(h)(7) of the CEA and
Commission rule 36.3(c) promulgated
thereunder.
DATES: Effective date: April 28, 2010.
FOR FURTHER INFORMATION CONTACT:
Gregory K. Price, Industry Economist,
Division of Market Oversight,
Commodity Futures Trading
Commission, Three Lafayette Centre,
1155 21st Street, NW., Washington, DC
20581. Telephone: (202) 418–5515. Email: gprice@cftc.gov; or Susan Nathan,
Senior Special Counsel, Division of
Market Oversight, same address.
Telephone: (202) 418–5133. E-mail:
snathan@cftc.gov.
SUPPLEMENTARY INFORMATION:
I. Introduction
The CFTC Reauthorization Act of
2008 (‘‘Reauthorization Act’’) 2
significantly broadened the CFTC’s
regulatory authority with respect to
ECMs by creating, in section 2(h)(7) of
the CEA, a new regulatory category—
ECMs on which significant price
discovery contracts (‘‘SPDCs’’) are
traded—and treating ECMs in that
category as registered entities under the
CEA.3 The legislation authorizes the
CFTC to designate an agreement,
contract or transaction as a SPDC if the
Commission determines, under criteria
established in section 2(h)(7), that it
performs a significant price discovery
function. When the Commission makes
such a determination, the ECM on
which the SPDC is traded must assume,
with respect to that contract, all the
responsibilities and obligations of a
registered entity under the Act and
Commission regulations, and must
comply with nine core principles
established by new section 2(h)(7)(C).
On March 16, 2009, the CFTC
promulgated final rules implementing
the provisions of the Reauthorization
Act.4 As relevant here, rule 36.3
imposes increased information reporting
requirements on ECMs to assist the
Commission in making prompt
assessments whether particular ECM
contracts may be SPDCs. In addition to
filing quarterly reports of its contracts,
an ECM must notify the Commission
promptly concerning any contract
traded in reliance on the exemption in
section 2(h)(3) of the CEA that averaged
2 Incorporated as Title XIII of the Food,
Conservation and Energy Act of 2008, Pub. L. 110–
246, 122 Stat. 1624 (June 18, 2008).
3 7 U.S.C. 1a(29).
4 74 FR 12178 (Mar. 23, 2009); these rules became
effective on April 22, 2009.
E:\FR\FM\04MYN1.SGM
04MYN1
]]>Agencies
[Federal Register Volume 75, Number 85 (Tuesday, May 4, 2010)]
[Notices]
[Pages 23710-23718]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2010-10305]
-----------------------------------------------------------------------
COMMODITY FUTURES TRADING COMMISSION
Order Finding That the ICE PG&E Citygate Financial Basis Contract
Traded on the IntercontinentalExchange, Inc., Performs a Significant
Price Discovery Function
AGENCY: Commodity Futures Trading Commission.
ACTION: Final order.
-----------------------------------------------------------------------
SUMMARY: On October 9, 2009, the Commodity Futures Trading Commission
(``CFTC'' or ``Commission'') published for comment in the Federal
Register \1\ a notice of its intent to undertake a determination
whether the PG&E Citygate Financial Basis (``PGE'') contract, traded on
the IntercontinentalExchange, Inc. (``ICE''), an exempt commercial
market (``ECM'') under sections 2(h)(3)-(5) of the Commodity Exchange
Act (``CEA'' or the ``Act''), performs a significant price discovery
function pursuant to section 2(h)(7) of the CEA. The Commission
undertook this review based upon an initial evaluation of information
and data provided by ICE as well as other available information. The
Commission has reviewed the entire record in this matter, including all
comments received, and has determined to issue an order finding that
the PGE contract performs a significant price discovery function.
Authority for this action is found in section 2(h)(7) of the CEA and
Commission rule 36.3(c) promulgated thereunder.
---------------------------------------------------------------------------
\1\ 74 FR 52210 (October 9, 2009).
---------------------------------------------------------------------------
DATES: Effective date: April 28, 2010.
FOR FURTHER INFORMATION CONTACT: Gregory K. Price, Industry Economist,
Division of Market Oversight,
[[Page 23711]]
Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st
Street, NW., Washington, DC 20581. Telephone: (202) 418-5515. E-mail:
gprice@cftc.gov; or Susan Nathan, Senior Special Counsel, Division of
Market Oversight, same address. Telephone: (202) 418-5133. E-mail:
snathan@cftc.gov.
SUPPLEMENTARY INFORMATION:
I. Introduction
The CFTC Reauthorization Act of 2008 (``Reauthorization Act'') \2\
significantly broadened the CFTC's regulatory authority with respect to
ECMs by creating, in section 2(h)(7) of the CEA, a new regulatory
category--ECMs on which significant price discovery contracts
(``SPDCs'') are traded--and treating ECMs in that category as
registered entities under the CEA.\3\ The legislation authorizes the
CFTC to designate an agreement, contract or transaction as a SPDC if
the Commission determines, under criteria established in section
2(h)(7), that it performs a significant price discovery function. When
the Commission makes such a determination, the ECM on which the SPDC is
traded must assume, with respect to that contract, all the
responsibilities and obligations of a registered entity under the Act
and Commission regulations, and must comply with nine core principles
established by new section 2(h)(7)(C).
---------------------------------------------------------------------------
\2\ Incorporated as Title XIII of the Food, Conservation and
Energy Act of 2008, Pub. L. 110-246, 122 Stat. 1624 (June 18, 2008).
\3\ 7 U.S.C. 1a(29).
---------------------------------------------------------------------------
On March 16, 2009, the CFTC promulgated final rules implementing
the provisions of the Reauthorization Act.\4\ As relevant here, rule
36.3 imposes increased information reporting requirements on ECMs to
assist the Commission in making prompt assessments whether particular
ECM contracts may be SPDCs. In addition to filing quarterly reports of
its contracts, an ECM must notify the Commission promptly concerning
any contract traded in reliance on the exemption in section 2(h)(3) of
the CEA that averaged five trades per day or more over the most recent
calendar quarter, and for which the exchange sells its price
information regarding the contract to market participants or industry
publications, or whose daily closing or settlement prices on 95 percent
or more of the days in the most recent quarter were within 2.5 percent
of the contemporaneously determined closing, settlement or other daily
prices of another contract.
---------------------------------------------------------------------------
\4\ 74 FR 12178 (Mar. 23, 2009); these rules became effective on
April 22, 2009.
---------------------------------------------------------------------------
Commission rule 36.3(c)(3) established the procedures by which the
Commission makes and announces its determination whether a particular
ECM contract serves a significant price discovery function. Under those
procedures, the Commission will publish notice in the Federal Register
that it intends to undertake an evaluation whether the specified
agreement, contract or transaction performs a significant price
discovery function and to receive written views, data and arguments
relevant to its determination from the ECM and other interested
persons. Upon the close of the comment period, the Commission will
consider, among other things, all relevant information regarding the
subject contract and issue an order announcing and explaining its
determination whether or not the contract is a SPDC. The issuance of an
affirmative order signals the effectiveness of the Commission's
regulatory authorities over an ECM with respect to a SPDC; at that time
such an ECM becomes subject to all provisions of the CEA applicable to
registered entities.\5\ The issuance of such an order also triggers the
obligations, requirements and timetables prescribed in Commission rule
36.3(c)(4).\6\
---------------------------------------------------------------------------
\5\ Public Law 110-246 at 13203; Joint Explanatory Statement of
the Committee of Conference, H.R. Rep. No. 110-627, 110 Cong., 2d
Sess. 978, 986 (Conference Committee Report). See also 73 FR 75888,
75894 (Dec. 12, 2008).
\6\ For an initial SPDC, ECMs have a grace period of 90 calendar
days from the issuance of a SPDC determination order to submit a
written demonstration of compliance with the applicable core
principles. For subsequent SPDCs, ECMs have a grace period of 30
calendar days to demonstrate core principle compliance.
---------------------------------------------------------------------------
II. Notice of Intent To Undertake SPDC Determination
On October 9, 2009, the Commission published in the Federal
Register notice of its intent to undertake a determination whether the
PGE contract performs a significant price discovery function, and
requested comment from interested parties.\7\ Comments were received
from the Industrial Energy Consumers of America (``IECA''), Working
Group of Commercial Energy Firms (``WGCEF''), ICE, Economists
Incorporated (``EI''), Natural Gas Supply Association (``NGSA''),
Federal Energy Regulatory Commission (``FERC''), and Financial
Institutions Energy Group (``FIEG'').\8\ The comment letter from FERC
\9\ did not directly address the issue of whether or not the PGE
contract is a SPDC; IECA concluded that the PGE contract is a SPDC, but
did not provide a basis for its conclusion.\10\ The other parties'
comments raised substantive issues with respect to the applicability of
section 2(h)(7) to the PGE contract, generally asserting that the PGE
contract is not a SPDC as it does not meet the material liquidity,
material price reference and price linkage criteria for SPDC
determination. Those comments are more extensively discussed below, as
applicable.
---------------------------------------------------------------------------
\7\ The Commission's Part 36 rules establish, among other
things, procedures by which the Commission makes and announces its
determination whether a specific ECM contract serves a significant
price discovery function. Under those procedures, the Commission
publishes a notice in the Federal Register that it intends to
undertake a determination whether a specified agreement, contract or
transaction performs a significant price discovery function and to
receive written data, views and arguments relevant to its
determination from the ECM and other interested persons.
\8\ IECA describes itself as an ``association of leading
manufacturing companies'' whose membership ``represents a diverse
set of industries including: plastics, cement, paper, food
processing, brick, chemicals, fertilizer, insulation, steel, glass,
industrial gases, pharmaceutical, aluminum and brewing.'' WGCEF
describes itself as ``a diverse group of commercial firms in the
domestic energy industry whose primary business activity is the
physical delivery of one or more energy commodities to customers,
including industrial, commercial and residential consumers'' and
whose membership consists of ``energy producers, marketers and
utilities.'' ICE is an ECM, as noted above. EI is an economic
consulting firm with offices located in Washington, DC, and San
Francisco, CA. NGSA is an industry association comprised of natural
gas producers and marketers. FERC is an independent federal
regulatory agency that, among other things, regulates the interstate
transmission of natural gas, oil and electricity. FIEG describes
itself as an association of investment and commercial banks who are
active participants in various sectors of the natural gas markets,
``including acting as marketers, lenders, underwriters of debt and
equity securities, and proprietary investors.'' The comment letters
are available on the Commission's Web site: https://www.cftc.gov/lawandregulation/federalregister/federalregistercomments/2009/09-023.html.
\9\ FERC stated that the PGE contract is cash settled and does
not contemplate actual physical delivery of natural gas.
Accordingly, FERC expressed the opinion that a determination by the
Commission that a contract performs a significant price discovery
function ``would not appear to conflict with FERC's exclusive
jurisdiction under the Natural Gas Act (NGA) over certain sales of
natural gas in interstate commerce for resale or with its other
regulatory responsibilities under the NGA'' and further that, ``the
FERC staff will continue to monitor for any such conflict * * *
[and] advise the CFTC'' should any such potential conflict arise. CL
06 (references the number of the comment letter (``CL'') in the
public record).
\10\ IECA stated that the subject ICE contract should ``be
required to come into compliance with core principles mandated by
Section 2(h)(7) of the Act and with other statutory provisions
applicable to registered entities. [This contract] should be subject
to the Commission's position limit authority, emergency authority
and large trader reporting requirements, among others.'' CL 01.
---------------------------------------------------------------------------
III. Section 2(h)(7) of the CEA
The Commission is directed by section 2(h)(7) of the CEA to
consider
[[Page 23712]]
the following criteria in determining a contract's significant price
discovery function:
Price Linkage--the extent to which the agreement, contract
or transaction uses or otherwise relies on a daily or final settlement
price, or other major price parameter, of a contract or contracts
listed for trading on or subject to the rules of a designated contract
market (``DCM'') or derivatives transaction execution facility
(``DTEF''), or a SPDC traded on an electronic trading facility, to
value a position, transfer or convert a position, cash or financially
settle a position, or close out a position.
Arbitrage--the extent to which the price for the
agreement, contract or transaction is sufficiently related to the price
of a contract or contracts listed for trading on or subject to the
rules of a DCM or DTEF, or a SPDC traded on or subject to the rules of
an electronic trading facility, so as to permit market participants to
effectively arbitrage between the markets by simultaneously maintaining
positions or executing trades in the contracts on a frequent and
recurring basis.
Material price reference--the extent to which, on a
frequent and recurring basis, bids, offers or transactions in a
commodity are directly based on, or are determined by referencing or
consulting, the prices generated by agreements, contracts or
transactions being traded or executed on the electronic trading
facility.
Material liquidity--the extent to which the volume of
agreements, contracts or transactions in a commodity being traded on
the electronic trading facility is sufficient to have a material effect
on other agreements, contracts or transactions listed for trading on or
subject to the rules of a DCM, DTEF or electronic trading facility
operating in reliance on the exemption in section 2(h)(3).
Not all criteria must be present to support a determination that a
particular contract performs a significant price discovery function,
and one or more criteria may be inapplicable to a particular
contract.\11\ Moreover, the statutory language neither prioritizes the
criteria nor specifies the degree to which a SPDC must conform to the
various criteria. In Guidance issued in connection with the Part 36
rules governing ECMs with SPDCs, the Commission observed that these
criteria do not lend themselves to a mechanical checklist or formulaic
analysis. Accordingly, the Commission has indicated that in making its
determinations it will consider the circumstances under which the
presence of a particular criterion, or combination of criteria, would
be sufficient to support a SPDC determination.\12\ For example, for
contracts that are linked to other contracts or that may be arbitraged
with other contracts, the Commission will consider whether the price of
the potential SPDC moves in such harmony with the other contract that
the two markets essentially become interchangeable. This co-movement of
prices would be an indication that activity in the contract had reached
a level sufficient for the contract to perform a significant price
discovery function. In evaluating a contract's price discovery role as
a price reference, the Commission will consider the extent to which, on
a frequent and recurring basis, bids, offers or transactions are
directly based on, or are determined by referencing, the prices
established for the contract.
---------------------------------------------------------------------------
\11\ In its October 9, 2009, Federal Register release, the
Commission identified material price reference, price linkage and
material liquidity as the possible criteria for SPDC determination
of the PGE contract. Arbitrage was not identified as a possible
criterion and will not be discussed further in this document or the
associated Order.
\12\ 17 CFR 36, Appendix A.
---------------------------------------------------------------------------
IV. Findings and Conclusions
a. The PG&E Citygate (PGE) Financial Basis Contract and the SPDC
Indicia
The PGE contract is cash settled based on the difference between
the bidweek price index for the price of natural gas at the PG&E
Citygate for the month of delivery, as published in Intelligence Press
Inc.'s (``IPI's'') Natural Gas Bidweek Survey, and the final settlement
price of the New York Mercantile Exchange's (``NYMEX's'') physically-
delivered Henry Hub natural gas futures contract for the same calendar
month. The IPI bidweek price, which is published monthly, is based on a
survey of cash market traders who voluntarily report to IPI data on
fixed-price transactions for physical delivery of natural gas at the
PG&E Citygate conducted during the last five business days of the
month; such bidweek transactions specify the delivery of natural gas on
a uniform basis throughout the following calendar month at the agreed
upon rate. The IPI bidweek index is published on the first business day
of the calendar month in which the natural gas is to be delivered. The
size of the PGE contract is 2,500 million British thermal units
(``mmBtu''), and the unit of trading is any multiple of 2,500 mmBtu.
The PGE contract is listed for up to 72 calendar months commencing with
the next calendar month.
The Henry Hub,\13\ which is located in Erath, Louisiana, is the
primary cash market trading and distribution center for natural gas in
the United States. It also is the delivery point and pricing basis for
the NYMEX's actively traded, physically-delivered natural gas futures
contract, which is the most important pricing reference for natural gas
in the United States. The Henry Hub, which is operated by Sabine Pipe
Line, LLC, serves as a juncture for 13 different pipelines. These
pipelines bring in natural gas from fields in the Gulf Coast region and
ship it to major consumption centers along the East Coast and Midwest.
The throughput shipping capacity of the Henry Hub is 1.8 trillion mmBtu
per day.
---------------------------------------------------------------------------
\13\ The term ``hub'' refers to a juncture where two or more
natural gas pipelines are connected. Hubs also serve as pricing
points for natural gas at the particular locations.
---------------------------------------------------------------------------
In addition to the Henry Hub, there are a number of other locations
where natural gas is traded. In 2008, there were 33 natural gas market
centers in North America.\14\ Some of the major trading centers include
Alberta, Northwest Rockies, Southern California border and the Houston
Ship Channel. For locations that are directly connected to the Henry
Hub by one or more pipelines and where there typically is adequate
shipping capacity, the price at the other locations usually directly
tracks the price at the Henry Hub, adjusted for transportation costs.
However, at other locations that are not directly connected to the
Henry Hub or where shipping capacity is limited, the prices at those
locations often diverge from the Henry Hub price. Furthermore, one
local price may be significantly different than the price at another
location even though the two markets' respective distances from the
Henry Hub are the same. The reason for such pricing disparities is that
a given location may experience supply and demand factors that are
specific to that region, such as differences in pipeline shipping
capacity, unusually high or low demand for heating or cooling or supply
disruptions caused by severe weather. As a consequence, local natural
gas prices can differ from the Henry Hub price by more than the cost of
shipping and such price differences can vary in an unpredictable
manner.
---------------------------------------------------------------------------
\14\ See https://www.eia.doe.gov/pub/oil_gas/natural_gas/feature_articles/2009/ngmarketcenter/ngmarketcenter.pdf.
---------------------------------------------------------------------------
The PG&E Citygate is part of the Golden Gate Market Center, which
is located in Northern California. The Golden Gate Market Center offers
seven
[[Page 23713]]
different transaction points, which are Malin, Citygate, Kern River
Station, High Desert Lateral, Daggett, Southern Trails and Topock.
Citygate serves as interconnection between the backbone pipeline system
and the local transmission and distribution lines.\15\ The Golden Gate
Market Center had an estimated throughput capacity of two billion cubic
feet per day in 2008. Moreover, the number of pipeline interconnections
at the Golden Gate Market Center was nine in 2008, up from eight in
2003. Lastly, the pipeline interconnection capacity of the Golden Gate
Market Center in 2008 was 6 billion cubic feet per day, which
constituted a 32 percent increase over the pipeline interconnection
capacity in 2003.\16\ The PG&E Citygate is far removed from the Henry
Hub and is not directly connected to the Henry Hub by an existing
pipeline.
---------------------------------------------------------------------------
\15\ The cash market transactions included in the comparable
Platts index are those fixed-price gas deliveries from Pacific Gas
and Electric's intrastate transmission system to citygates on PG&E's
local distribution system in Northern California.
\16\ See https://www.eia.doe.gov/pub/oil_gas/natural_gas/feature_articles/2009/ngmarketcenter/ngmarketcenter.pdf
---------------------------------------------------------------------------
The local price at the PG&E Citygate typically differs from the
price at the Henry Hub. Thus, the price of the Henry Hub physically-
delivered futures contract is an imperfect proxy for the PG&E Citygate
price. Moreover, exogenous factors, such as adverse weather, can cause
the PG&E Citygate gas price to differ from the Henry Hub price by an
amount that is more or less than the cost of shipping, making the NYMEX
Henry Hub futures contract even less precise as a hedging tool than
desired by market participants. Basis contracts \17\ allow traders to
more accurately discover prices at alternative locations and hedge
price risk that is associated with natural gas at such locations. In
this regard, a position at a local price for an alternative location
can be established by adding the appropriate basis swap position to a
position taken in the NYMEX physically-delivered Henry Hub contract (or
in the NYMEX or ICE Henry Hub look-alike contract, which cash settle
based on the NYMEX physically-delivered natural gas contract's final
settlement price).
---------------------------------------------------------------------------
\17\ Basis contracts denote the difference in the price of
natural gas at a specified location minus the price of natural gas
at the Henry Hub. The differential can be either a positive or
negative value.
---------------------------------------------------------------------------
In its October 9, 2009, Federal Register notice, the Commission
identified material price reference, price linkage and material
liquidity as the potential SPDC criteria applicable to the PGE
contract. Each of these criteria is discussed below.\18\
---------------------------------------------------------------------------
\18\ As noted above, the Commission did not find an indication
of arbitrage in connection with this contract; accordingly, that
criterion was not discussed in reference to the PGE contract.
---------------------------------------------------------------------------
1. Material Price Reference Criterion
The Commission's October 9, 2009, Federal Register notice
identified material price reference as a potential basis for a SPDC
determination with respect to this contract. The Commission considered
the fact that ICE maintains exclusive rights over IPI's bidweek price
indices. As a result, no other exchange can offer such a basis contract
based on IPI's PG&E Citygate bidweek index. While other third-party
price providers produce natural gas price indices for this and other
trading centers, market participants indicate that the IPI PG&E
Citygate bidweek index is highly regarded for this particular location
and should market participants wish to establish a hedged position
based on this index, they would need to do so by taking a position in
the ICE PGE swap since ICE has the right to the IPI index for cash
settlement purposes. In addition, ICE sells its price data to market
participants in a number of different packages which vary in terms of
the hubs covered, time periods, and whether the data are daily only or
historical. For example, ICE offers ``West Gas End of Day'' and ``OTC
Gas End of Day'' \19\ with access to all price data or just current
prices plus a selected number of months (i.e., 12, 24, 36 or 48 months)
of historical data. These two packages include price data for the PGE
contract.
---------------------------------------------------------------------------
\19\ The OTC Gas End of Day dataset includes daily settlement
prices for natural gas contracts listed for all points in North
America.
---------------------------------------------------------------------------
The Commission will rely on one of two sources of evidence--direct
or indirect--to determine that the price of a contract was being used
as a material price reference and therefore, serving a significant
price discovery function.\20\ With respect to direct evidence, the
Commission will consider the extent to which, on a frequent and
recurring basis, cash market bids, offers or transactions are directly
based on or quoted at a differential to, the prices generated on the
ECM in question. Direct evidence may be established when cash market
participants are quoting bid or offer prices or entering into
transactions at prices that are set either explicitly or implicitly at
a differential to prices established for the contract in question. Cash
market prices are set explicitly at a differential to the section
2(h)(3) contract when, for instance, they are quoted in dollars and
cents above or below the reference contract's price. Cash market prices
are set implicitly at a differential to a section 2(h)(3) contract
when, for instance, they are arrived at after adding to, or subtracting
from the section 2(h)(3) contract, but then quoted or reported at a
flat price. With respect to indirect evidence, the Commission will
consider the extent to which the price of the contract in question is
being routinely disseminated in widely distributed industry
publications--or offered by the ECM itself for some form of
remuneration--and consulted on a frequent and recurring basis by
industry participants in pricing cash market transactions.
---------------------------------------------------------------------------
\20\ 17 CFR part 36, appendix A.
---------------------------------------------------------------------------
The PG&E Citygate is a major trading center for natural gas in the
United States. Traders, including producers, keep abreast of the prices
of the PGE contract when conducting cash deals. These traders look to a
competitively determined price as an indication of expected values of
natural gas at the PG&E Citygate when entering into cash market
transaction for natural gas, especially those trades providing for
physical delivery in the future. Traders use the ICE PGE contract, as
well as other ICE basis swap contracts, to hedge cash market positions
and transactions--activities which enhance the PGE contract's price
discovery utility. The substantial volume of trading and open interest
in the PGE contract appears to attest to its use for this purpose.
While the PGE contract's settlement prices may not be the only factor
influencing spot and forward transactions, natural gas traders consider
the ICE price to be a critical factor in conducting OTC
transactions.\21\ As a result, the PGE contract satisfies the direct
price reference test.
---------------------------------------------------------------------------
\21\ In addition to referencing ICE prices, natural gas market
firms participating in the PG&E Citygate market may rely on other
cash market quotes as well as industry publications and price
indices that are published by third-party price reporting firms when
entering into natural gas transactions.
---------------------------------------------------------------------------
In terms of indirect price reference, ICE sells the PGE contract's
prices as part of a broad package. The Commission notes that the PG&E
Citygate is a major natural gas trading point, and the PGE contract's
prices are well regarded in the industry as indicative of the value of
natural gas at the PG&E Citygate. Accordingly, the Commission believes
that it is reasonable to conclude that market participants are
purchasing the data packages that include the PGE contract's prices in
substantial part because the PGE contract prices have particular value
to them. Moreover, such prices are
[[Page 23714]]
consulted on a frequent and reoccurring basis by industry participants
in pricing cash market transactions. In light of the above, the PGE
contract meets the indirect price reference test.
NYMEX lists a futures contract that is comparable to the ICE PGE
contract on its ClearPort platform. However, unlike the ICE contract,
none of the trades in the NYMEX, PG&E Citygate Basis Swap (Platts
IFERC) futures contract are executed in NYMEX's centralized
marketplace; instead, all of the transactions originate as bilateral
swaps that are submitted to NYMEX for clearing. The daily settlement
prices of the NYMEX PG&E Citygate Basis Swap futures contract are
influenced, in part, by the daily settlement prices of the ICE PGE
contract. This is because NYMEX determines the daily settlement prices
for its natural gas basis swap contracts through a survey of cash
market voice brokers. Voice brokers, in turn, refer to the ICE PGE
price, among other information, as an important indicator as to where
the market is trading. Therefore, the ICE PGE price influences the
settlement price for the NYMEX PG&E Citygate Basis Swap futures
contract. This is supported by an analysis of the daily settlement
prices for the NYMEX and ICE PG&E Citygate contracts. In this regard,
97 percent of the daily settlement prices for the NYMEX PG&E Citygate
Basis Swap futures contract are within one standard deviation of the
PGE contract's price settlement prices.
Lastly, the fact that the PGE contract does not meet the price
linkage criterion (discussed below) bolsters the argument for material
price reference. As noted above, the Henry Hub is the pricing reference
for natural gas in the United States. However, regional market
conditions may cause the price of natural gas in another area of the
country to diverge by more than the cost of transportation, thus making
the Henry Hub price an imperfect proxy for the local gas price. The
more variable the local natural gas price is, the more traders need to
accurately hedge their price risk. Basis swap contracts provide a means
of more accurately pricing natural gas at a location other than the
Henry Hub. An analysis of PG&E Citygate natural gas prices showed that
55 percent of the observations were more than 2.5 percent different
than the contemporaneous Henry Hub prices. The average PG&E Citygate
basis value between January 2008 and September 2009 was -$0.16 per
mmBtu with a variance of $0.10 per mmBtu.
i. Federal Register Comments
ICE stated in its comment letter that the PGE contract does not
meet the material price reference criterion for SPDC determination. ICE
argued that the Commission appeared to base the case that the PGE
contract is potentially a SPDC on two disputable assertions. First, in
issuing its notice of intent to determine whether the PGE contract is a
SPDC, the CFTC cited a general conclusion in its ECM study ``that
certain market participants referred to ICE as a price discovery market
for certain natural gas contracts.'' \22\ ICE states that CFTC's reason
is ``hard to quantify as the ECM report does not mention'' this
contract as a potential SPDC. ``It is unknown which market participants
made this statement in 2007 or the contracts that were referenced.''
\23\ In response to the above comment, the Commission notes that it
cited the ECM study's general finding that some ICE natural gas
contracts appear to be regarded as price discovery markets merely as an
indicia that an investigation of certain ICE contracts may be
warranted, and was not intended to serve as the sole basis for
determining whether or not a particular contract meets the material
price reference criterion.
---------------------------------------------------------------------------
\22\ CL 03.
\23\ CL 03.
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Second, ICE argued that the Commission should not base a
determination that the PGE contract is a SPDC on the fact that this
contract has the exclusive right to base its settlement on the IPI PG&E
Citygate Index price. While the Commission acknowledges that there are
other firms that produce price indices for the PG&E Citygate, as it
notes above, market participants indicate that the IPI Index is very
highly regarded and should they wish to establish a hedged position
based on this index, they would need to do so by taking a position in
the ICE PGE swap since ICE has the exclusive right to use the IPI
index.\24\
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\24\ Futures and swaps based on other PG&E Citygate indices have
not met with the same market acceptance as the PGE contract. For
example, NYMEX lists a basis swap contract that is comparable to the
PGE contract with the exception that it uses a different price index
for cash settlement. Open interest as of September 30, 2009, was
approximately 19,000 contracts in the NYMEX PG&E Citygate Basis Swap
contract versus about 167,000 contracts in ICE's PGE contract.
Moreover, there has been no centralized-market trading in the NYMEX
PG&E Citygate Basis Swap contract, so that contract does not serve
as a source of price discovery for cash market traders with natural
gas at that location.
---------------------------------------------------------------------------
WGCEF, NGSA, EI and FIEG all stated that the PGE contract does not
satisfy the material price reference criterion. The commenters argued
that other contracts (physical or financial) are not indexed based on
the ICE PGE contract price, but rather are indexed based on the
underlying cash price series against which the ICE PGE contract is
settled. Thus, they contend that the underlying cash price series is
the authentic reference price and not the ICE contract itself. The
Commission believes that this interpretation of price reference is too
limiting in that it only considers the final index value on which the
contract is cash settled after trading ceases. Instead, the Commission
believes that a cash-settled derivatives contract could meet the price
reference criteria if market participants ``consult on a frequent and
recurring basis'' the derivatives contract when pricing forward, fixed-
price commitments or other cash-settled derivatives that seek to ``lock
in'' a fixed price for some future point in time to hedge against
adverse price movements.
As noted above, the PG&E Citygate is a major trading center for
natural gas in North America. Traders, including producers, keep
abreast of the prices of the PGE contract when conducting cash deals.
These traders look to a competitively determined price as an indication
of expected values of natural gas at the PG&E Citygate when entering
into cash market transaction for natural gas, especially those trades
that provide for physical delivery in the future. Traders use the ICE
PGE contract to hedge cash market positions and transactions, which
enhances the PGE contract's price discovery utility. While the PGE
contract's settlement prices may not be the only factor influencing
spot and forward transactions, natural gas traders consider the ICE
price to be a crucial factor in conducting OTC transactions.
Both EI and WGCEF stated that publication of price data in a
package format is a weak justification for material price reference.
These commenters argue that market participants generally do not
purchase ICE data sets for one contract's prices, such as those for the
PGE contract. Instead, traders are interested in the settlement prices,
so the fact that ICE sells the PGE prices as part of a broad package is
not conclusive evidence that market participants are buying the ICE
data sets because they find the PGE prices have substantial value to
them. The Commission notes that the PG&E Citygate is a major natural
gas trading point, and the PGE contract's prices are well regarded in
the industry as indicative of the value of natural gas at the PG&E
Citygate. Accordingly, the Commission believes that it is
[[Page 23715]]
reasonable to conclude that market participants are purchasing the data
packages that include the PGE contract's prices in substantial part
because the PGE contract prices have particular value to them.
ii. Conclusion Regarding Material Price Reference
Based on the above, the Commission finds that the PGE contract
meets the material price reference criterion because cash market
transactions are being priced on a frequent and recurring basis at a
differential to the PGE contract's price (direct evidence). Moreover,
the ECM sells the PGE contract's price data to market participants and
it is reasonable to conclude that market participants are purchasing
the data packages that include the PGE contract's prices in substantial
part because the PGE contract prices have particular value to them.
Furthermore, such prices are consulted on a frequent and reoccurring
basis by industry participants in pricing cash market transactions
(indirect evidence).
2. Price Linkage Criterion
In its October 9, 2009, Federal Register notice, the Commission
identified price linkage as a potential basis for a SPDC determination
with respect to the PGE contract. In this regard, the final settlement
of the PGE contract is based, in part, on the final settlement price of
the NYMEX's physically-delivered natural gas futures contract, where
the NYMEX is registered with the Commission as a DCM.
The Commission's Guidance on Significant Price Discovery Contracts
\25\ notes that a ``price-linked contract is a contract that relies on
a contract traded on another trading facility to settle, value or
otherwise offset the price-linked contract.'' Furthermore, the Guidance
notes that, ``[f]or a linked contract, the mere fact that a contract is
linked to another contract will not be sufficient to support a
determination that a contract performs a significant price discovery
function. To assess whether such a determination is warranted, the
Commission will examine the relationship between transaction prices of
the linked contract and the prices of the referenced contract. The
Commission believes that where material liquidity exists, prices for
the linked contract would be observed to be substantially the same as
or move substantially in conjunction with the prices of the referenced
contract.'' Furthermore, the Guidance proposes a threshold price
relationship such that prices of the ECM linked contract will fall
within a 2.5 percent price range for 95 percent of contemporaneously
determined closing, settlement or other daily prices over the most
recent quarter. Finally, the Commission also stated in the Guidance
that it would consider a linked contract that has a trading volume
equivalent to 5 percent of the volume of trading in the contract to
which it is linked to have sufficient volume potentially to be deemed a
SPDC (``minimum threshold'').
---------------------------------------------------------------------------
\25\ Appendix A to the Part 36 rules.
---------------------------------------------------------------------------
To assess whether the PGE contract meets the price linkage
criterion, Commission staff obtained price data from ICE and performed
the statistical tests cited above. Staff found that while the PG&E
Citygate price is determined, in part, by the final settlement price of
the NYMEX physically-delivered natural gas futures contract (a DCM
contract), the PG&E Citygate price is not within 2.5 percent of the
settlement price of the corresponding NYMEX Henry Hub natural gas
futures contract on 95 percent of the days. Specifically, during the
third quarter of 2009, 45 percent of the PG&E Citygate natural gas
prices derived from the ICE basis values were within 2.5 percent of the
daily settlement price of the NYMEX Henry Hub futures contract. In
addition, staff finds that the PGE contract fails to meet the volume
threshold requirement. In particular, the total trading volume in the
NYMEX Natural Gas contract during the third quarter of 2009 was
14,022,963 contracts, with 5 percent of that number being 701,148
contracts. The number of trades on the ICE centralized market in the
PGE contract during the same period was 108,468 contracts (equivalent
to 27,117 NYMEX contracts, given the size difference).\26\ Thus,
centralized-market trades in the PGE contract amounted to less than the
minimum threshold.
---------------------------------------------------------------------------
\26\ The PGE contract is one-quarter the size of the NYMEX Henry
Hub physically-delivered futures contract.
---------------------------------------------------------------------------
Due to the specific criteria that a given ECM contract must meet to
fulfill the price linkage criterion, the requirements, for all intents
and purposes, exclude ECM contracts that are not near facsimiles of DCM
contracts. That is, even though an ECM contract may specifically use a
DCM contract's settlement price to value a position, which is the case
of the PGE contract, a substantive difference between the two price
series would rule out the presence of price linkage. In this regard, an
ECM contract that is priced and traded as if it is a functional
equivalent of a DCM contract likely will have a price series that
mirrors that of the corresponding DCM contract. In contrast, for
contracts that are not look-alikes of DCM contracts, it is reasonable
to expect that the two price series would be divergent. The PG&E
Citygate and the Henry Hub are located in two different areas of the
United States. The Henry Hub primarily is a supply center while the
PG&E Citygate primarily is a demand center. These differences
contribute to the divergence between the two price series and, as
discussed below, increase the likelihood that the ``basis'' contract is
used for material price reference.
i. Federal Register Comments
NGSA \27\ stated that the PGE contract does not meet the price
linkage criterion because basis contracts, including the PGE contract,
are not equivalent to the NYMEX physically-delivered Henry Hub
contract. EI \28\ also noted that the PGE and NYMEX natural gas
contracts are not economically equivalent and that the PGE contract's
volume is too low to affect the NYMEX natural gas futures contract.
WGCEF \29\ stated that the PG&E Citygate price is determined, in part,
by the final settlement price of the NYMEX Henry Hub futures contract.
However, WGCEF goes on to state that the PGE contract ``(a) is not
substantially the same as the NYMEX [natural gas futures contract] * *
* nor (b) does it move substantially in conjunction'' with the NYMEX
natural gas futures contract. ICE \30\ opined that the PGE contract's
trading volume is too low to affect the price discovery process for the
NYMEX natural gas futures contract. In addition, ICE states that the
PGE contract simply reflects a price differential between PG&E Citygate
and the Henry Hub; ``there is no price linkage as contemplated by
Congress or the CFTC in its rulemaking.'' FIEG \31\ acknowledged that
the PGE contract is a locational spread that is based in part on the
NYMEX natural gas futures price, but also questioned the significance
of this fact relative to the price linkage criterion since the key
component of the spread is the price at the PG&E Citygate location and
not the NYMEX physically-delivered natural gas futures price.
---------------------------------------------------------------------------
\27\ CL 05.
\28\ CL 04.
\29\ CL 02.
\30\ CL 03.
\31\ CL 07.
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ii. Conclusion Regarding the Price Linkage Criterion
Based on the above, the Commission finds that the PGE contract does
not meet the price linkage criterion because
[[Page 23716]]
it fails the price relationship and volume tests provided for in the
Commission's Guidance.
3. Material Liquidity Criterion
To assess whether the PGE contract meets the material liquidity
criterion, the Commission first examined volume and open interest data
provided to it by ICE as a general measurement of the PGE market's size
and potential importance, and second performed a statistical analysis
to measure the effect that changes to PGE prices potentially may have
on prices for the NYMEX Henry Hub Natural Gas (a DCM contract), the ICE
NWP Financial Basis contract (an ECM contract) and the ICE Malin
Financial Basis contract (an ECM contract).\32\
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\32\ As noted above, the material liquidity criterion speaks to
the effect that transactions in the potential SPDC may have on
trading in ``agreements, contracts and transactions listed for
trading on or subject to the rules of a designated contract market,
a derivatives transaction execution facility, or an electronic
trading facility operating in reliance on the exemption in section
2(h)(3) of the Act.''
---------------------------------------------------------------------------
The Commission's Guidance (Appendix A to Part 36) notes that
``[t]raditionally, objective measures of trading such as volume or open
interest have been used as measures of liquidity.'' In this regard, the
Commission in its October 9, 2009, Federal Register notice referred to
second quarter 2009 trading statistics that ICE had submitted for its
PGE contract. Based upon on a required quarterly filing made by ICE on
July 27, 2009, the total number of PGE trades executed on ICE's
electronic trading platform was 1,142 in the second quarter of 2009,
resulting in a daily average of 17.8 trades. During the same period,
the PGE contract had a total trading volume on ICE's electronic trading
platform of 99,418 contracts and an average daily trading volume of
1,553.4 contracts. Moreover, the open interest as of June 30, 2009, was
150,299 contracts, which includes trades executed on ICE's electronic
trading platform, as well as trades executed off of ICE's electronic
trading platform and then brought to ICE for clearing.\33\
---------------------------------------------------------------------------
\33\ ICE does not differentiate between open interest created by
a transaction executed on its trading platform versus that created
by a transaction executed off its trading platform.
---------------------------------------------------------------------------
Subsequent to the October 9, 2009, Federal Register notice, ICE
submitted another quarterly notification filed on November 13,
2009,\34\ with updated trading statistics. Specifically, with respect
to its PGE contract, 1,514 separate trades occurred on its electronic
platform in the third quarter of 2009, resulting in a daily average of
22.9 trades. During the same period, the PGE contract had a total
trading volume on its electronic platform of 108,468 contracts (which
was an average of 1,643 contracts per day).\35\ As of September 30,
2009, open interest in the PGE contract was 166,981 \36\ contracts.
Reported open interest included positions resulting from trades that
were executed on ICE's electronic platform, as well as trades that were
executed off of ICE's electronic platform and brought to ICE for
clearing.
---------------------------------------------------------------------------
\34\ See Commission Rule 36.3(c)(2), 17 CFR 36.3(c)(2).
\35\ By way of comparison, the number of contracts traded in the
PGE contract is similar to that exhibited on a liquid futures market
and is roughly equivalent to the volume of trading for the NYMEX
Palladium futures contract during this period.
\36\ By way of comparison, open interest in the PGE contract is
similar to that exhibited on a liquid futures market and is roughly
equivalent to that in the Chicago Board of Trade's soybean meal
futures contract.
---------------------------------------------------------------------------
In the Guidance, the Commission stated that material liquidity can
be identified by the impact liquidity exhibits through observed prices.
Thus, to make a determination whether the PGE contract has such
material impact, the Commission reviewed the relevant trading
statistics (noted above). In this regard, the average number trades per
day in the second and third quarters of 2009 were above the minimum
reporting level (5 trades per day). Moreover, trading activity in the
PGE contract, as characterized by total quarterly volume, indicates
that the PGE contract experiences trading activity that generally
exceeds that found in thinly-traded markets.\37\ Thus, it is reasonable
to infer that the PGE contract could have a material effect on other
ECM contracts or on DCM contracts.
---------------------------------------------------------------------------
\37\ Staff has advised the Commission that in its experience, a
thinly-traded contract is, generally, one that has a quarterly
trading volume of 100,000 contracts or less. In this regard, in the
third quarter of 2009, physical commodity futures contracts with
trading volume of 100,000 contracts or fewer constituted less than
one percent of total trading volume of all physical commodity
futures contracts.
---------------------------------------------------------------------------
To measure the effect that the PGE contract potentially could have
on a DCM contract, or on another ECM contract, Commission staff
performed a statistical analysis \38\ using daily settlement prices
(between January 2, 2008, and September 30, 2009) for the PGE contract,
as well as for the NYMEX Henry Hub natural gas contract (a DCM
contract) and the ICE NWP Rockies Financial Basis and ICE Malin
Financial Basis contracts (ECM contracts). The simulation results
suggest that, on average over the sample period, a one percent rise in
the PGE contract's price elicited a 1.1 percent increase in each of the
NYMEX Henry Hub and ICE Malin prices, as well as a 1 percent increase
in the Rockies price.
---------------------------------------------------------------------------
\38\ Specifically, Commission staff econometrically estimated a
vector autoregression (VAR) model using daily settlement prices. A
vector autoregression model is an econometric model used to capture
the evolution and the interdependencies between multiple time
series, generalizing the univariate autoregression models. The
estimated model displays strong diagnostic evidence of statistical
adequacy. In particular, the model's impulse response function was
shocked with a one-time rise in PGE contract's price. The simulation
results suggest that, on average over the sample period, a one-
percent rise in the PGE contract's price elicited a 1.1 percent
increase in the NYMEX Henry Hub and Malin prices, as well as a one
percent increase in the Rockies contract's price. These multipliers
of response emerge with noticeable statistical strength or
significance. Based on such long run sample patterns, if the PGE
contract's price rises by 10 percent, then the price of NYMEX Henry
Hub natural gas futures contract, as well as those for the ICE basis
swap contracts based on the Rockies and Malin hubs, each would rise
by about 10 percent to 11 percent.
---------------------------------------------------------------------------
i. Federal Register Comments
As noted above, comments were received from seven individuals and
organizations, with five comments being directly applicable to the SPDC
determination of the ICE PGE contract. WGCEF, EI, FIEG, ICE and NGSA
generally agreed that the PGE contract does not meet the material
liquidity criterion.
WGCEF \39\ and NGSA \40\ both stated that the PGE contract does not
materially affect other contracts that are listed for trading on DCMs
or ECMs, as well as other over-the-counter contracts. Instead, the PGE
contract is influenced by the underlying PG&E Citygate cash price index
and the final settlement price of the NYMEX Henry Hub natural gas
futures contract, not vice versa. FIEG \41\ stated that the PGE
contract cannot have a material effect on NYMEX contract because the
PGE contract trades on a differential and represents ``one leg (and not
the relevant leg) of the locational spread.'' The Commission's
statistical analysis shows that changes in the ICE PGE contract's price
significantly influences the prices of other contracts that are traded
on DCMs and ECMs.
---------------------------------------------------------------------------
\39\ CL 02.
\40\ CL 05.
\41\ CL 07.
---------------------------------------------------------------------------
First, ICE opined that the Commission ``seems to have adopted a
five trade-per-day test to determine whether a contract is materially
liquid. It is worth noting that ICE originally suggested that the CFTC
use a five trades-per-day threshold as the basis for an ECM to report
trade data to the CFTC.'' In this regard, the Commission adopted a five
trades-per-day threshold as a reporting requirement to enable it to
``independently be aware of ECM contracts that may develop into SPDCs''
[[Page 23717]]
rather than solely relying upon an ECM on its own to identify any such
potential SPDCs to the Commission. Thus, any contract that meets this
threshold may be subject to scrutiny as a potential SPDC. As noted
above, the Commission is basing a finding of material liquidity for the
ICE PGE contract, in part, on the fact that there have been more than
20 trades per day on average in the PGE contract during the third
quarter of 2009, which is quadruple the five trades-per-day that is
cited in the ICE comment. In addition, the Commission notes that the
number of contracts per transaction in the PGE contract is high
(approximately 72 contracts per transaction) and thus, as noted,
trading volume (measured in contract units) is substantial. The PGE
contract also has significant open interest.
ICE implied that the statistics provided by ICE were misinterpreted
and misapplied by the Commission. In particular, ICE stated that the
volume figures used in the Commission's analysis (cited above)
``include trades made in all [72] months of * * * [the] contract'' as
well as in strips of contract months, and a ``more appropriate method
of determining liquidity is to examine the activity in a single traded
month or strip of a given contract.'' ICE stated that only about 25 to
40 percent of the trades occurred in the single most liquid, usually
prompt, month of the contract.
It is the Commission's opinion that liquidity, as it pertains to
the PGE contract, is typically a function of trading activity in
particular lead months and, given sufficient liquidity in such months,
the PGE contract itself would be considered liquid. ICE's analysis of
its own trade data confirms this to be the case for the PGE contract,
and thus, the Commission believes that it applied the statistical data
cited above in an appropriate manner for gauging material liquidity.
In addition, EI and ICE stated that the trades-per-day statistics
that it provided to the Commission in its quarterly filing and which
are cited above includes 2(h)(1) transactions, which were not completed
on the electronic trading platform and should not be considered in the
SPDC determination process. Commission staff asked ICE to review the
data it sent in its quarterly filings. In response, ICE confirmed that
the volume data it provided and which the Commission cited in its
October 9, 2009, Federal Register notice, as well as the additional
volume information it cites above, includes only transaction data
executed on ICE's electronic trading platform. The Commission
acknowledges that the open interest information it cites above includes
transactions made off the ICE platform.\42\ However, once open interest
is created, there is no way for ICE to differentiate between ``on-
exchange'' versus ``off-exchange'' created positions, and all such
positions are fungible with one another and may be offset in any way
agreeable to the position holder regardless of how the position was
initially created.
---------------------------------------------------------------------------
\42\ Supplemental data supplied by the ICE confirmed that block
trades in the third quarter of 2009 were in addition to the trades
that were conducted on the electronic platform; block trades
comprised 63.4 percent of all transactions in the PGE contract.
---------------------------------------------------------------------------
ii. Conclusion Regarding Material Liquidity
Based on the above, the Commission concludes that the PGE contract
meets the material liquidity criterion in that there is sufficient
trading activity in the PGE contract to have a material effect on
``other agreements, contracts or transactions listed for trading on or
subject to the rules of a designated contract market * * * or an
electronic trading facility operating in reliance on the exemption in
section 2(h)(3) of the Act'' (that is, an ECM).
4. Overall Conclusion
After considering the entire record in this matter, including the
comments received, the Commission has determined that the PGE contract
performs a significant price discovery function under two of the four
criteria established in section 2(h)(7) of the CEA. Although the
Commission has determined that the PGE contract does not meet the price
linkage criterion at this time, the Commission has concluded that the
PGE contract does meet both the material liquidity and material price
reference criteria. Accordingly, the Commission is issuing the attached
Order declaring that the PGE contract is a SPDC.
Issuance of this Order signals the immediate effectiveness of the
Commission's authorities with respect to ICE as a registered entity in
connection with its PGE contract,\43\ and triggers the obligations,
requirements--both procedural and substantive--and timetables
prescribed in Commission rule 36.3(c)(4) for ECMs.
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\43\ See 73 FR 75888, 75893 (Dec. 12, 2008).
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V. Related Matters
a. Paperwork Reduction Act
The Paperwork Reduction Act of 1995 (``PRA'') \44\ imposes certain
requirements on Federal agencies, including the Commission, in
connection with their conducting or sponsoring any collection of
information as defined by the PRA. Certain provisions of Commission
rule 36.3 impose new regulatory and reporting requirements on ECMs,
resulting in information collection requirements within the meaning of
the PRA. OMB previously has approved and assigned OMB control number
3038-0060 to this collection of information.
---------------------------------------------------------------------------
\44\ 44 U.S.C. 3507(d).
---------------------------------------------------------------------------
b. Cost-Benefit Analysis
Section 15(a) of the CEA \45\ requires the Commission to consider
the costs and benefits of its actions before issuing an order under the
Act. By its terms, section 15(a) does not require the Commission to
quantify the costs and benefits of an order or to determine whether the
benefits of the order outweigh its costs; rather, it requires that the
Commission ``consider'' the costs and benefits of its actions. Section
15(a) further specifies that the costs and benefits shall be evaluated
in light of five broad areas of market and public concern: (1)
Protection of market participants and the public; (2) efficiency,
competitiveness and financial integrity of futures markets; (3) price
discovery; (4) sound risk management practices; and (5) other public
interest considerations. The Commission may in its discretion give
greater weight to any one of the five enumerated areas and could in its
discretion determine that, notwithstanding its costs, a particular
order is necessary or appropriate to protect the public interest or to
effectuate any of the provisions or accomplish any of the purposes of
the Act. The Commission has considered the costs and benefits in light
of the specific provisions of section 15(a) of the Act and has
concluded that the Order, required by Congress to strengthen federal
oversight of exempt commercial markets and to prevent market
manipulation, is necessary and appropriate to accomplish the purposes
of section 2(h)(7) of the Act.
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\45\ 7 U.S.C. 19(a).
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When a futures contract begins to serve a significant price
discovery function, that contract, and the ECM on which it is traded,
warrants increased oversight to deter and prevent price manipulation or
other disruptions to market integrity, both on the ECM itself and in
any related futures contracts trading on DCMs. An Order finding that a
particular contract is a SPDC triggers this increased oversight and
imposes obligations on the ECM calculated to accomplish this goal. The
increased oversight engendered by the issue of a SPDC Order increases
transparency and
[[Page 23718]]
helps to ensure fair competition among ECMs and DCMs trading similar
products and competing for the same business. Moreover, the ECM on
which the SPDC is traded must assume, with respect to that contract,
all the responsibilities and obligations of a registered entity under
the CEA and Commission regulations. Additionally, the ECM must comply
with nine core principles established by section 2(h)(7) of the Act--
including the obligation to establish position limits and/or
accountability standards for the SPDC. Section 4(i) of the CEA
authorizes the Commission to require reports for SPDCs listed on ECMs.
These increased responsibilities, along with the CFTC's increased
regulatory authority, subject the ECM's risk management practices to
the Commission's supervision and oversight and generally enhance the
financial integrity of the markets.
c. Regulatory Flexibility Act
The Regulatory Flexibility Act (``RFA'') \46\ requires that
agencies consider the impact of their rules on small businesses. The
requirements of CEA section 2(h)(7) and the Part 36 rules affect ECMs.
The Commission previously has determined that ECMs are not small
entities for purposes of the RFA.\47\ Accordingly, the Chairman, on
behalf of the Commission, hereby certifies pursuant to 5 U.S.C. 605(b)
that this Order, taken in connection with section 2(h)(7) of the Act
and the Part 36 rules, will not have a significant impact on a
substantial number of small entities.
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\46\ 5 U.S.C. 601 et seq.
\47\ 66 FR 42256, 42268 (Aug. 10, 2001).
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VI. Order
a. Order Relating to the ICE PG&E Citygate Financial Basis Contract
After considering the complete record in this matter, including the
comment letters received in response to its request for comments, the
Commission has determined to issue the following Order:
The Commission, pursuant to its authority under section 2(h)(7) of
the Act, hereby determines that the PG&E Citygate Financial Basis
contract, traded on the IntercontinentalExchange, Inc., satisfies the
statutory material liquidity and material price reference criteria for
significant price discovery contracts. Consistent with this
determination, and effective immediately, the IntercontinentalExchange,
Inc., must comply with, with respect to the PG&E Citygate Financial
Basis contract, the nine core principles established by new section
2(h)(7)(C). Additionally, the IntercontinentalExchange, Inc., shall be
and is considered a registered entity \48\ with respect to the PG&E
Citygate Financial Basis contract and is subject to all the provisions
of the Commodi
