The agency will use the information to take further steps to address climate risks in the commodity derivatives markets.
By Jean-Philippe Brisson, Yvette Valdez, Douglas Yatter, Joshua Bledsoe, Michael Dreibelbis, Qingyi Pan, and Deric Behar
On June 2, 2022, the Commodity Futures Trading Commission (CFTC) issued a Request for Information (RFI) to inform its understanding and oversight of climate-related financial risk relevant to the derivatives markets and underlying commodities market. The CFTC is seeking public feedback on all aspects of climate-related financial risk that “may pertain to the derivatives markets, underlying commodities markets, registered entities, registrants, and other related market participants.”
According to the RFI, public response may be used to inform new or amended guidance, interpretations, policy statements, regulations, or other potential CFTC action. The information will also inform CFTC’s response to the recommendations of the Financial Stability Oversight Council 2021 Report on Climate Related Financial Risk (see Latham’s blog post on the FSOC Report) and inform the work of the CFTC’s Climate Risk Unit (CRU) (see Latham’s blog post on the CRU). Comments on the RFI were originally due by August 8, 2022. On July 18, 2022, the CFTC extended the deadline by an additional 60 days; comments are therefore due by October 7, 2022.
The Request for Information
The RFI seeks comments on physical and transition risk, and poses specific questions on how climate-related financial risks may affect the derivatives markets and market participants.
The RFI echoes many of the fundamental concerns in the recent RFIs issued by the Office of the Comptroller of the Currency (here) and the Federal Deposit Insurance Corporation (here), with a focus on tailoring; existing guidance; current risk management practices; data, disclosures, and reporting; and scenario analysis. The CFTC’s RFI goes further, however, covering climate risk as it relates to product innovation, voluntary carbon markets, digital assets, public-private partnerships and engagement, and capacity and coordination.
Some of the key questions are:
- Risk Management: How might entities need to adapt their risk management framework to address climate-related financial risk? Should the CFTC update its regulation or guidance to better address climate-related risk, including credit risks, market risks, counterparty risks, and other financial and operational risks?
- Data: What types of data would help the CFTC evaluate the climate-related financial risk exposures of registered entities, registrants, and other participants in the derivative markets? What steps should the CFTC consider in order to have better access to consistent and reliable data to assess climate-related financial risks?
- Disclosure: What specific additional disclosure requirements would aid market participants in better assessing climate-related risk? What steps should the CFTC consider to better inform the public of its efforts to assess and address climate-related financial risks?
- Scenario Analysis and Stress Testing: What type of climate forecasts, scenarios, or other data tools would be useful to the CFTC? Is there a long-term stress testing scenario that is relevant to the CFTC?
- Product Innovation: What products are currently used, or are being created, to manage climate-related financial risk, and are there protections or guardrails that the CFTC could consider to promote market integrity among these products?
- Voluntary Carbon Markets: Are there ways in which the CFTC can enhance the integrity of the voluntary carbon markets to foster transparency, fairness, and liquidity in those markets?
- Digital Assets: Are digital assets creating climate-related financial risk for CFTC registrants and should the CFTC address this risk with regulation? Do digital assets and/or distributed ledger technology offer climate-related financial risk mitigating benefits?
- Public-Private Partnerships/Engagement: What mechanisms should the CFTC use to foster public-private partnerships to address climate-related financial risk and are there any experts with whom the CFTC should collaborate to address this issue? Should the CFTC consider a standard-setting committee for climate-related indices designed to mitigate the long-term risks of climate change?
- Capacity and Coordination: What steps should the CFTC take to expand its capacity to monitor climate-related financial risks, and how should the CFTC coordinate its efforts with international groups and other regulatory bodies?
The Commissioners Weigh In
Chairman Rostin Behnam and Commissioners Kristin N. Johnson and Christy Goldsmith Romero voted affirmatively on the RFI. Commissioners Summer K. Mersinger and Caroline D. Pham concurred.
- Commissioner Mersinger published a statement concurring with the RFI, expressing support for the efforts of the CFTC to engage with market participants, industry, and the general public. She is concerned, however, that the RFI exceeds the scope of the CFTC’s statutory jurisdiction under the Commodity Exchange Act (CEA) by requesting information not only on the derivatives markets, but on the underlying commodity markets as well. She also noted the lack of questions pertaining to agriculture contracts and futures markets commonly used to hedge climate exposure.
- Commissioner Pham published a statement concurring with the RFI but also expressed concern that the CFTC should not exceed the scope of its mandate, given the CFTC’s core functions and limited resources. She also stated that the CFTC “should seek to harmonize from the start with existing prudential and other regulatory regimes in order to be efficient and avoid imposing duplicative or unnecessarily burdensome and complex requirements.”
- Commissioner Johnson published a statement in support of the RFI, stating that the RFI is “an important step toward learning from market participants how these markets may help them to hedge and efficiently manage existing and evolving climate-related risk.” She also stated that “these inquiries are well within the ambit of the CFTC’s statutory authority.”
- Commissioner Goldsmith Romero published a statement in support of the RFI, stating that the “CFTC should be at the forefront of financial regulatory efforts to understand, and identify actions to mitigate, climate-related financial risks and that impact CFTC-regulated markets.” She also asserted that it is within the CFTC’s ambit to promote responsible innovation and transparency in the markets for derivatives products and carbon offsets used to hedge against climate risk.
CFTC and the Carbon Offset Markets
In his remarks at the May 18 Politico Sustainability Summit, Chairman Behnam noted that the CFTC had identified the potential for fraud in the carbon offset market. He said that while many market participants were offering legitimate contracts, some were “probably… not quite acting in good faith.” While carbon offsets are not necessarily a traditional commodity, Chairman Behnam advanced the CFTC’s position that offsets are legally a commodity within the scope of the CFTC’s authority. Although the CFTC lacks authority to regulate cash commodity markets, spot prices directly impact futures and derivatives pricing, which allows the CFTC to bring enforcement actions for fraud and manipulation that originate in cash markets. The CFTC has therefore identified a need for “official sector participation” to ensure that offsets are credible and verifiable enough to support accurate net-emission disclosures.
The Voluntary Carbon Markets Convening
The RFI release coincided with the CFTC’s second Voluntary Carbon Markets Convening on June 2, 2022. In his opening remarks, Chairman Behnam expressed his hope that the Convening would provide a public forum for voluntary carbon market participants “to examine issues related to the supply and demand for high quality carbon offsets with a focus on integrity, infrastructure and credibility.” His key concern: “what role should the CFTC play in these markets?”
Several themes emerged from the panel of market participants who provided recommendations for the CFTC: transparency, integrity, liquidity, and global harmonization. Private market participants believe that transparency in voluntary carbon credit (VCC) projects and credit delivery will increase public trust in the market. Many participants believe greater market integrity will reduce the risk of fraud and unethical conduct, and promote critical market liquidity. Finally, participants believe the voluntary carbon market is fundamentally global and requires a globally coordinated regulatory framework to grow and avoid fragmentation. According to one speaker, the CFTC should take stock over its existing regulatory authority and look for opportunities to bring transparency and consistency to VCC markets.
Latham & Watkins will continue to monitor the RFI and other issues related to the CFTC’s climate risk mitigation efforts.
This post was prepared with the assistance of summer associate Lindsay Martin.