Futures Commission Merchant Regulation

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Gavel.png FINAL RULE: CFTC Final Rule: Enhancing Protections Afforded Customers and Customer Funds Held by Futures Commission Merchants and Derivatives Clearing Organizations Approved October 30, 2013
Gavel.png FINAL RULE: Investment of Customer Funds by Futures Commission Merchants and Derivatives Clearing Organizations Approved at CFTC Open Meeting, December 5, 2011
Gavel.png FINAL RULES: Required Compliance Policies and Conflicts of Interest Approved at CFTC Open Meeting, February 23, 2012
Gavel.png FINAL RULE: CFTC Final Rule: Protection of Cleared Swaps Customer Contracts and Collateral; Conforming Amendments to the Commodity Broker Bankruptcy Provisions at CFTC Open Meeting, January 11, 2012
Gavel.png FINAL RULE: CFTC Final Rule: Customer Clearing Documentation, Timing of Acceptance for Clearing, and Clearing Member Risk Management Approved at CFTC Open Meeting, March 20, 2012
Dodd-Frank Timeline, Customer Clearing Documentation and Timing of Acceptance for Clearing
Final Rule Issue Effective Date Compliance Date, FCMs, DCMs, DCOs Compliance Date, SEFs
April 9, 2012 October 1, 2012 October 1, 2012 TBA
Dodd-Frank Timeline, Clearing Member Risk Management
Final Rule Issue Effective Date Compliance Date, Rule 1.73 Compliance Extension, Bunched Orders
April 9, 2012 October 1, 2012 June 1, 2013 September 1, 2013
Dodd-Frank Timeline, Investment of Customer Funds
Final Rule Issue Effective Date Compliance Deadline
December 19, 2011 February 17, 2012 June 18, 2012
Dodd-Frank Timeline, Conflicts of Interest for Swap Entities, FCMs, IBs
Final Rule Issue Effective Date Compliance Date
April 3, 2012 August 3, 2012 October 12, 2012
Dodd-Frank Timeline, Required Compliance Policies
Final Rule Issue Effective Date Compliance Date, Non-Covered Firms Compliance Date, Covered Firms
April 3, 2012 June 4, 2012 September 30, 2012 March 31, 2013
Dodd-Frank Timeline, Protection of Cleared Swaps Customer Contracts and Collateral, Commodity Broker Bankruptcy Provisions
Final Rule Issue Effective Date Compliance Date
February 7, 2012 April 9, 2012 November 13, 2012

In accordance with Title VII of the Dodd-Frank Act, the CFTC has issued several rulemakings and proposed rule changes affecting or involving activities of futures commission merchants (FCMs). A final rule regarding the investment of customer funds was approved at the commission's December 5, 2011 open meeting.

Additionally, at its January 11, 2012 open meeting, the CFTC approved its final rules on the protection of cleared swaps customer collateral in the case of a broker bankruptcy.

At its February 23, 2012 open meeting, the CFTC approved its final rules on certain internal business conduct standards for swap dealers, major swap participants and futures commission merchants. These rules include conflicts of interest and compliance responsibilities.

Finally, at its March 20, 2012 open meeting, the CFTC approved a final rulemaking covering clearing member risk management, clearing documentation and timing of acceptance for clearing, and allocation of bunched orders.

NFA Proposed Interpretive Guidance: Internal Controls for Futures Commission Merchants, May 2013

On May 22, 2013, the National Futures Association (NFA) published and submitted to the CFTC an interpretive notice regarding new Compliance Rule 2.9: FCM Internal Control Systems. The NFA board approved the proposal on May 16, 2013, and requests review and approval by the commission. Compliance RUle 2.9 places the obligation on all members to "diligently supervise its employees and agents in all aspects of their futures activities for or on behalf of the member." This includes providing "reasonable assurance" that the member's books and records are accurate so that financial reports are reliable, and that the member is in compliance with regulators.

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CFTC Final Rule: Customer Clearing Documentation, Timing of Acceptance for Clearing, and Clearing Member Risk Management

At its March 20, 2012 open meeting, the CFTC approved a final rulemaking covering previously proposed rules:

  • clearing member risk management ;
  • clearing documentation and timing of acceptance for clearing; and
  • allocation of bunched orders.

The risk management, clearing documentation and timing of acceptance proposals were approved at the July 19, 2011 open meeting and the bunched order allocation proposal was approved as part of a package of changes to CFTC regulations in order to incorporate swaps, as required by the Dodd-Frank Act.

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FCM Final Rules from the February 23, 2012 Open Meeting

At its February 23, 2012 open meeting, the CFTC approved its final rules on certain internal business conduct standards for swap dealers, major swap participants and futures commission merchants[1] Among the rules are two that cover FCMs:

Designation of Chief Compliance Officer and Preparation of Annual Compliance Report
Conflicts of Interest for Swap Dealers, Major Swap Participants, Futures Commission Merchants, and Introducing Brokers

The final conflict of interest rules restrict or prohibit:

  • non-research personnel from influencing the content of research reports prepared by research analysts employed by the SD, MSP, FCM, or IB,
  • the consideration of a research analyst’s contributions to the trading or clearing business when setting the research analyst’s compensation.
  • the offering of favorable research, or threatening to change research, for existing or prospective counterparties in exchange for business or compensation.
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The final compliance rule sets out the qualifications and duties of the Chief Compliance Officer (CCO), and the required contents of the annual report that the CCO must file.

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FCM Final Rule from the January 11, 2012 meeting

Investment of Customer Funds by Futures Commission Merchants and Derivatives Clearing Organizations

At its January 11, 2012 meeting, the CFTC approved its final rule on the protection of cleared swaps customer contracts and collateral. Under the final rule, swaps customer funds will be legally separated, but operationally commingled (the "LSOC Model"). Cleared swaps customer collateral will be segregated from the FCM’s own property, but cleared swaps collateral of all FCM cleared swaps customers will be permitted to be kept together pre-bankruptcy in one account.

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FCM Final Rule from the December 5, 2011 open meeting

Investment of Customer Funds by Futures Commission Merchants and Derivatives Clearing Organizations

At its December 5, 2011 meeting, the CFTC approved its final rules on changes to Regulation 1.25, the investment of customer funds and protection of collateral. The rule is designed to ensure the safety of customer collateral held on deposit at futures commission merchants and derivatives clearing organizations while allowing investment flexibility and capital efficiency to those entities.[2] To that end, the commission has narrowed the available choices for the investment of collateral, raised certain standards for investment, and enacted concentration limits to encourage portfolio diversification.

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Video

Jim Falvey - Derivatives Attorney [INTERVIEW]

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Jim Falvey has been an attorney in the exchange and FCM space for over 15 years. He has served as general counsel of Eurex US and IntercontinentalExchange, as assistant general counsel for CME Group and, most recently, as general counsel and corporate secretary of R.J. O’Brien & Associates. He also sits on the advisory board of CMDirect, a web-based commodity trading platform. John Lothian News editor-at-large Doug Ashburn spoke with Falvey about the MF Global bankruptcy, the Volcker Rule, protection of segregated funds, conflicts of interest, and other compliance issues related to the Dodd-Frank Act. Published November 23, 2011. For more video, visit MarketsWiki.tv.

CFTC Proposed Rules

Note: These proposed rules have since been finalized (see above). The originally proposed rules and public comments are included as background information.

Conflicts of Interest for Swap Dealers, Major Swap Participants, Futures Commission Merchants, and Introducing Brokers

The Conflicts of Interest proposal is intended to create partitions within such entities between individuals involved with research or analysis and those involved with trading and clearing activities, by:

  • placing restrictions on non-research personnel influencing the content of research reports;
  • prohibiting the supervision of research analysts by trading and clearing personnel;
  • prohibiting from a research analyst's compensation his or her contribution to trading or clearing activities;
  • prohibiting the exchange, or offer of exchange, of favorable research for business or compensation; and
  • requiring full disclosure of potential conflicts of interest.[3]
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Required Compliance Policies; Designation of Chief Compliance Officer

The proposal would require swap dealers, major swap participants, futures commission merchants, and introducing brokers to name a Chief Compliance Officer ("CCO"). According to the proposal:

  • The CCO should have an "appropriate background," must register with the commission, and will be responsible for such duties as the establishment and enforcement of compliance policies, and resolution of conflicts of interest.
  • The CCO must prepare and submit an annual report on compliance policies and their effectiveness.
  • The CCO shall report to the board of directors and senior officers of the entity on a regular basis.[4]
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Protection of Cleared Swaps Customers Before and After Commodity Broker Bankruptcies ANPR

The advance notice of proposed rulemaking seeks information and comment from the public and other stakeholders regarding the use of various models by which customers be protected in the event of a broker bankruptcy. Specifically, the commission requests opinions, potential consequences, and other information under several models under consideration, including:

  • an "individual segregation" model regarding each customer’s collateral at all levels;
  • a model that commingles the collateral of multiple customers, but treats customer positions on an individual level;
  • a model that uses the collateral of non-defaulting customers in the case of a default, but only after the exhaustion of other clearinghouse resources; and
  • the current "futures model", which treats an FCM’s customers on an omnibus basis.[5]
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After considering the comments received from the ANPR, the commission is strongly considering adopting a model similar to the "Legal Segregation with Commingling" from the ANPR. In the final rulemaking, this model is referred to as "Complete Legal Segregation." In this setup, an FCM will be allowed to keep the cleared swaps collateral of all cleared swaps customers together pre-bankruptcy. In the event of a default of both an FCM member and one or more of its cleared swaps customers, a DCO would have recourse against the collateral of defaulting customers, but not against the collateral of non-defaulting customers.

The proposal also identifies the approved types and concentration limits on customer collateral, as per Regulation 1.25.

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References

  1. Regulators Adopt New Derivatives Rules. New York Times. Retrieved on April 9, 2012.
  2. Regulation 1.25 Q&A. CFTC. Retrieved on December 5, 2011.
  3. Open Meeting on Fourth Series of Proposed Rules under the Dodd-Frank Act. CFTC. Retrieved on March 7, 2011.
  4. Open Meeting on Fourth Series of Proposed Rules under the Dodd-Frank Act. CFTC. Retrieved on March 7, 2011.
  5. Open Meeting on Fifth Series of Proposed Rules under the Dodd-Frank Act. CFTC. Retrieved on April 28, 2011.

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