|
|
As the exchange-traded derivatives industry last week prepared to converge on Chicago this week for the annual FIA Futures and Options Expo, the US Commodity Futures Trading Commission last week fully resumed its frenetic back to work schedule following its October 1 to 16 hiatus by issuing sweeping new rules aimed at enhancing protections for futures customers and their funds as well as augmenting reports filed with the CFTC related to large traders of both swaps and futures. In addition, in lock step with the UK Financial Conduct Authority, the CFTC filed yet another LIBOR manipulation case, this time against Rabobank.
However, despite the expected very large international gathering in Chicago this week, the spotlight will remain focused on the CFTC's headquarters in Washington, DC where the Commission is expected on Tuesday to issue revised proposed new rules related to position limits for futures and swaps. These new rules are being issued after a US Federal Court vacated the Commission's 2011 position limit rules during September 2012.
As a result, the main stories covered on this week's Bridging the Week are:
Video Overview:
Article Overview:
US CFTC Adopts Tougher Customer Futures Funds' Protection Rules Including a Controversial Residual Interest Requirement
The CFTC last week approved sweeping new rules in an effort to enhance the protection of customers and their funds held by futures brokers and derivatives clearing organizations.
The most controversial provision requires future commission merchants within one year after the new rules' effective date, to maintain by 6 pm Eastern Time on each business day an amount of their own funds in their customer accounts (their so-called "residual interest") at least equal to their customers' aggregate under-margined amounts for the prior trade date. This is the case even if all margin is expected by an FCM to be paid by each customer fully and timely.
Moreover, unless the CFTC adopts different rules, the time required for FCMs to maintain their enhanced minimum residual interest in their customer accounts automatically will accelerate after December 31, 2018, to the early morning of the business day following trade date instead of by 6 pm.
Many market users and industry representatives had argued against the CFTC's original proposed rules (November 14, 2012) that originally required FCMs to supplement their customers' aggregate under-margined amounts 24/7. Among other arguments, it was claimed that this proposed rule reversed decades of CFTC interpretation of applicable law and would substantially increase costs for both FCMs and market users. Moreover, if FCMs required market users to pre-fund their trading, the proposed rules could increase customers' financial exposure to FCMs when after the recent collapses of MF Global and Peregrine Financial Group they sought to reduce their exposure.
According to one Commissioner, Mark Wetjen, the Commission's final rule is a good compromise:
"The compromise reflected in the final rule is intended to usher in improvements to margin-collection practices over time and to protect access to the markets for a broad cross-section of participants. As a general matter, I strongly support improvements to the residual-interest requirements because of the critical policy objectives they are designed to achieve. First, they will better protect the excess segregation funds of a customer in the event of an FCM bankruptcy. Second, they will encourage FCMs to more actively monitor customer accounts for instances when those accounts are under-margined. And third, they will incentivize FCMs to address those circumstances when an account is under-margined. Together, these enhancements will better protect the safety and soundness of the FCM."
In addition, the CFTC adopted rules requiring enhanced risk management programs by FCMs and mandating certain new general and specific disclosures to FCMs' existing and prospective clients regarding the overall risks of participating in the futures and swaps markets, as well as the risks of dealing with a specific FCM. The new rules also raised the standards for self-regulatory organizations examinations of FCMs.
The effective date of the new rules is 60 days after their publication in the Federal Register, while different compliance dates pertain to different requirements, with one – requiring FCMs to provide revised disclosure documents to their customers – having a deadline as early as 90 days after the effective date.
(For a detailed discussion of the principal requirements of these new rules and applicable compliance dates of various provisions, check out an article published October 30 on this website: http://www.garydewaalandassociates.com/?p=1286.)
US CFTC Adopts New Rules Related to Position Reporting Requirements and the Segregation of Collateral Posted for Uncleared Swaps
On the same day the CFTC adopted its new rules related to the protection of futures customers, the CFTC also adopted rules that (1) add requirements related to the reporting of large positions and trading activity by futures and swaps markets' participants, and (2) require swap dealers and major swap participants to notify their counterparties that when they post margin in connection with uncleared swaps, the counterparties may request that their margin be segregated at an independent custodian.
The new rules related to the reporting of large positions and trading activity dealing through so-called "Ownership and Control Reports" are designed by the Commission to enhance its visibility regarding market participants, including to identify more easily relationships between trading accounts, reportable positions and market activity. A new form (Form 102B) requires certain information regarding trading accounts that exceed a specific level of volume on designated contract markets or swap execution facilities regardless of an account's end of day position. All required reports will have to be made electronically through an FTP (file transfer protocol) feed to the Commission or through a CFTC web-based portal. Faxed, emailed or mailed reports no longer will be accepted. Reporting entities must comply with these new rules by 270 days after they are published in the Federal Register.
Separately, the CFTC adopted rules that require if a counterparty to an uncleared swap with a Swap Dealer or Major Swap Participant elects for its initial margin to be segregated, the account holding the margin must be maintained at an independent custodian subject to a written custody agreement. SDs and MSPs must notify their counterparties in the first instance that they have the right for their posted initial margin to be segregated.
SDs and MSPs must comply with these new requirements by 180 days after Federal Register publication for new counterparties, and by 360 days for existing counterparties.
In addition, the CFTC made clear through its new regulations that margin posted in connection with uncleared swaps that is segregated for a counterparty can only be invested by the SD or MSP in the same type of very safe and liquid investments permitted by future commission merchants to invest their futures customers' funds. Also, the CFTC amended its bankruptcy regulations to clarify certain protections that are available to customers holding securities held in a portfolio margining account carried as a futures account or a cleared swaps customer account.
CFTC and FCA Fine Rabobank over LIBOR:
Last week, both the US CFTC and the UK Financial Conduct Authority fined Rabobank (Cooperatieve Centrale Raiffeisen-Borenleenbank BA) for manipulative conduct related to LIBOR and other benchmark interest rates. The FCA also cited Rabobank for inadequate risk management systems that failed to prevent the Bank's violations, and for the failure of the Bank's internal audit department to follow-up on a red flag related to the violations.
The US CFTC increased its total of penalties imposed on firms for manipulative conducted related to LIBOR and other benchmark interest rates to US $1.765 Billion by obligating Rabobank to pay US $475 Million to settle its action, while the UK Financial Conduct Authority assessed a fine of GB £105 Million against Rabobank. This increased FCA's aggregate total of penalties assessed against firms for LIBOR-related manipulative conduct to in excess of GB £425 Million (US $700 Million).
Rabobank also agreed to various conditions and undertakings imposed by the CFTC, including to institute certain compliance and supervisory controls. Among other things, the Bank commits to "identify, construct and promote effective methodologies and processes of setting Benchmark Interest Rates, in coordination with efforts by Benchmark Publishers, in order to ensure the integrity and reliability of Benchmark Interest Rates in the future."
Compliance Weeds: Buried in the middle of the FCA's Final Notice regarding its action against Rabobank (at paragraphs 4.40 - 4.51), is a discussion regarding why the FCA expressly singled out the Bank's Internal Audit department in its charges. Apparently, during an audit of the Bank's Global Liquidity and Finance Group, IAD staff observed that the Bank's daily Japanese LIBOR submissions were based almost exclusively on the recommendations of a single JPY trader. According to FCA:
"Despite identifying these issues in its working papers, Internal Audit did not assess and address the issues effectively. Internal Audit failed to advise senior management that JPY LIBOR submissions were being dictated by JPY Traders."
FCA held that the failure of IAD to identify this conflict of interest between the Bank's obligation to make LIBOR submissions in accordance with certain objective criteria and the actual making of submissions effectively by a person with a profitability objective "meant that Rabobank's breaches...were allowed to continue."
This singling out of the Bank's Internal Audit Department should give pause regarding the obligation of IAD supervisors more attentively to review staff's work papers for red flags that may evidence wrongful behavior that is not flagged in formal reports that ultimately will be received by management, as well as to heighten training of staff regarding red flags and their significance in the first place.
CME Proposes Revised Rule Related to EFRPs: All Transitory EFRPs Will Be Banned, Except Those Related to FX Futures and Certain Inventory Financing.
On November 1, the Chicago Mercantile Exchange submitted to the US CFTC for its approval proposed amendments to its rule related to the conduct of Exchange of Futures for Related Positions transactions and a corresponding Market Regulation Advisory. Principally, the CME proposes to ban all transitory EFRPs, except for those related to the inventory financing of storable, non-financial commodities, and to foreign currency futures. The CME also proposes to amend its record keeping and compliance obligations related to EFRPs.
Previously, on September 12, 2013, the CME also proposed to amend its EFRP Rule by banning all transitory EFRPS, including those related to FX futures, except for certain inventory financing transactions. The CME's current submission parallels its prior submission, except for now proposing to continue permitting transitory EFRPs related to FX futures.
As proposed by the CME, the cash component of EFRPs involving FX futures ordinarily would be documented by confirmation statements,
"…normally produced by the bank/foreign exchange dealer for confirmation of currency deals and should indicate by name, the identity of the counter party principal to the [t]ransaction. However, in circumstances where the EF[R]P Transaction is between a bank/foreign exchange dealer and a CTA, account controller, or other Person acting on behalf of a third party (such as a commodity pool or fund), the cash side confirmation statement must identify, at minimum, the name of the third party's Carrying Clearing Member and the third party's account number (or other account specific designation), but need not identify the third party by name."
In making its revised proposal, the CME acknowledged general industry opposition to disallowing EFRPs in CME Group's energy, metals and FX markets, which have been permitted for some time.
(For a discussion of the principal proposed amendments to the CME rule related to EFRPs, see the relevant article in Bridging the Week -- September 9 to 13 and 16, 2013 at: http://www.garydewaalandassociates.com/?p=897.)
And briefly:
For more details, see:
AlphaMetrix Notice to Customers regarding Liquidation of Funds (courtesy of the Dan Collins Report):
http://dancollinsreport.com/assets/AlphaMetrix-Statement.pdf
CFTC New Rules:
Enhanced Protection for Futures Customers and Their Funds:
http://www.cftc.gov/ucm/groups/public/@newsroom/documents/file/federalregister103013b.pdf
LTR -- Ownership and Control Reports:
http://www.cftc.gov/ucm/groups/public/@newsroom/documents/file/federalregister103013c.pdf
Uncleared Swaps' Margin Segregation Requirements:
http://www.cftc.gov/ucm/groups/public/@newsroom/documents/file/federalregister103013.pdf
CFTC Notice Regarding Additional LEI Codes That May Be Used to Comply with LEI Requirements:
http://www.cftc.gov/ucm/groups/public/@newsroom/documents/file/noticerocamendedorder.pdf
CFTC No Action Relief for SEFs in the FX Asset Class:
http://www.cftc.gov/ucm/groups/public/@lrlettergeneral/documents/letter/13-68.pdf
CME Revised Submission related to EFRPs:
http://www.cmegroup.com/market-regulation/files/13-526.pdf
ICE Futures Europe and US Self-Trade Prevention Functionality Delay:
Europe:
https://www.theice.com/publicdocs/circulars/13150.pdf
US:
https://www.theice.com/publicdocs/futures_us/exchange_notices/102813ExNotSTPFNoticeofextensionoftime.pdf
Rabobank LIBOR Enforcement Actions:
CFTC:
http://www.cftc.gov/ucm/groups/public/@lrenforcementactions/documents/legalpleading/enfrabobank102913.pdf
FCA:
http://www.fca.org.uk/static/documents/final-notices/rabobank.pdf
SEC Custody Cases: Overview Only:
http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370540098359--.UnR2SZF5vrb
The information contained in this article is not legal advice. For legal advice, please consult with your attorney. The information in this article is derived from sources believed to be reliable as of November 2, 2013, but no representation or warranty is made regarding the accuracy of any statement. To ensure compliance with requirements imposed by U.S. Treasury Regulations, Gary DeWaal and Associates LLC informs you that any U.S. tax advice contained in this communication (including any attachments) was not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. Gary DeWaal and Associates may represent one or more entities mentioned in this article.
Gary DeWaal is currently Special Counsel with Katten Muchin Rosenman LLP in its New York office.
|
Social Media: |
September 17, 2014
September 07, 2014
September 04, 2014
Gary DeWaal
Katten Muchin Rosenman
575 Madison Avenue
New York 10022-2585
1 (212) 940-6558
Gary DeWaal's Bridging the Week: October 28 to November 1 and November 4, 2013
Jump to: Bridging the Week Compliance Weeds