How Non-CDS Trading Swallowed the Security-Based Swap Market

During the massive federal government shutdown in late 2025, a severe lapse in appropriations completely paralyzed SEC staff, halting their ability to finalize the mandatory impact reports required to formally extend the de minimis phase-in period. Faced with an automated regulatory cliff where a rigid twelve-month look-back period would blindly force hundreds of firms into non-compliance, the Commission was forced to issue emergency exemptive relief. This political gridlock in Washington effectively bought the market time until May 2028, but it exposed how vulnerable the derivatives market is to congressional dysfunction. The regulatory apparatus rests on distinct transactional ceilings that determine when an entity must register as a security-based swap dealer and subject itself to comprehensive oversight. Current rules enforce a phase-in de minimis threshold of $8 billion for credit default swaps and $400 million for non-credit default swaps, alongside a strict $25 million limit for transactions involving special entities such as municipalities and pension plans. The statutory framework measures a firm's potential dealing activity against these hard limits over a rolling twelve-month period, aggregating the notional amounts of dealing transactions executed by the firm and its control affiliates. The Commission utilizes a phase-in period, recently extended through May 2028, to weigh whether to permanently drop these limits to $3 billion for credit default swaps and $150 million for non-credit default swaps. Exceeding these limits forces immediate registration, bringing stringent capital, margin, and business conduct requirements. Trading volume realities have shattered the Commission's original architectural assumptions regarding market composition. In 2011, regulators built the framework anticipating that non-credit default swap trading would constitute a mere five percent of overall market activity. The transaction reports from 2024 prove the opposite, revealing that non-credit default swaps now constitute over 99 percent of all new trade activity, amassing a staggering $4,612.8 trillion in notional volume compared to just $8.6 trillion for credit default swaps. This explosion in non-credit volume is heavily driven by frequent, substantive amendments to existing trade terms, which are reported and counted as distinct new trade events under the current measurement methodology. The sheer scale of this activity means that any reduction in the non-credit default swap de minimis threshold from $400 million down to $150 million will capture dozens of previously unregistered entities. The actual impact of these staggering notional volumes is heavily mitigated by a labyrinth of statutory exclusions that allow sophisticated actors to carve out massive portions of their trading activity from the de minimis calculations. Inter-affiliate transactions are completely stripped from the dealing calculation, shielding internal corporate risk transfers from triggering registration mandates. More critically, cross-border exclusions provide massive relief for foreign entities, allowing non-U.S. persons to deduct transactions executed with other non-U.S. persons, as well as certain anonymously executed and centrally cleared platform trades. These exclusions erased approximately $4.6 trillion from credit default swap dealing calculations and over $1,041 trillion from non-credit default swap tallies during the 2024 review period. Firms aggressively utilize these carve-outs to remain unregistered, successfully managing their net dealing activity to float just underneath the $8 billion and $400 million ceilings. The special entity threshold acts as a nearly impenetrable barrier to entry for unregistered dealers. Transactions involving municipalities, federal agencies, and protected pension plans trigger registration if they exceed a microscopic $25 million ceiling, entirely bypassing the multi-billion-dollar protections afforded to standard corporate trades. Consequently, unregistered participants entirely avoid the special entity market, routing 100 percent of this volume into the hands of the 53 registered security-based swap dealers. There are no safe harbors or exclusions available for inter-affiliate or cross-border trades involving special entities, cementing a monopolistic reality where only fully regulated dealers touch municipal and federal swap agreements. The single greatest downstream consequence of allowing the phase-in thresholds to expire is a severe and immediate liquidity contraction that will physically alter the American economic landscape. If the SEC permits the non-credit default swap threshold to permanently collapse to $150 million, mid-tier liquidity providers will simply abandon the market entirely rather than absorb the exorbitant capital and compliance costs of mandatory SBSD registration. This withdrawal will critically starve special entities like municipalities, public utilities, and pension funds of necessary counterparties, drastically widening spreads in an already illiquid space. By shifting the balance of power entirely to a consolidated cartel of Wall Street megabanks, local governments will be forced to pay massive premiums to hedge their public debt and infrastructure risks. Ultimately, everyday citizens will bear the true cost of this regulatory friction through higher local property taxes, spiked consumer utility rates, and underfunded state pensions as public authorities bleed capital merely to manage their municipal risk. The parallel regulatory classification for Major Security-Based Swap Participants remains an empty vessel, entirely undermined by critical data collection failures. This classification targets entities holding substantial uncollateralized outward exposure or massive potential outward exposure, designed to catch highly leveraged financial entities that pose systemic risks outside of traditional dealing channels. However, the Commission failed to mandate the reporting of daily mark-to-market valuations or posted collateral data for security-based swaps, rendering the underlying statutory tests fundamentally inoperable for market surveillance. As a result, not a single entity has ever registered as a Major Security-Based Swap Participant, and regulators are forced to rely on gross notional position data to estimate whether market participants might qualify for one of four convoluted safe harbors. The reporting rules also completely fail to identify critical jurisdictional markers, such as whether a foreign branch arranged a trade or whether a U.S. person guaranteed the obligations of a foreign affiliate, leaving regulators blind to the true cross-border exposure of the domestic financial system.