[Senate Hearing 106-907]
[From the U.S. Government Publishing Office]
S. Hrg. 106-907
CFTC REPORT ENTITLED ``A NEW REGULATORY FRAMEWORK''
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HEARING
before the
COMMITTEE ON AGRICULTURE,
NUTRITION, AND FORESTRY
UNITED STATES SENATE
SUBCOMMITTEE ON RESEARCH, NUTRITION AND GENERAL LEGISLATION
ONE HUNDRED SIXTH CONGRESS
SECOND SESSION
ON
CFTC REPORT ENTITLED ``A NEW REGULATORY FRAMEWORK''
__________
MARCH 20, 2000
__________
Printed for the use of the
Committee on Agriculture, Nutrition, and Forestry
U.S. GOVERNMENT PRINTING OFFICE
69-315 WASHINGTON : 2001
_______________________________________________________________________
For sale by the U.S. Government Printing Office
Superintendent of Documents, Congressional Sales Office, Washington, DC
20402
?
COMMITTEE ON AGRICULTURE, NUTRITION, AND FORESTRY
RICHARD G. LUGAR, Indiana, Chairman
JESSE HELMS, North Carolina TOM HARKIN, Iowa
THAD COCHRAN, Mississippi PATRICK J. LEAHY, Vermont
MITCH McCONNELL, Kentucky KENT CONRAD, North Dakota
PAUL COVERDELL, Georgia THOMAS A. DASCHLE, South Dakota
PAT ROBERTS, Kansas MAX BAUCUS, Montana
PETER G. FITZGERALD, Illinois J. ROBERT KERREY, Nebraska
CHARLES E. GRASSLEY, Iowa TIM JOHNSON, South Dakota
LARRY E. CRAIG, Idaho BLANCHE L. LINCOLN, Arkansas
RICK SANTORUM, Pennsylvania
Keith Luse, Staff Director
David L. Johnson, Chief Counsel
Robert E. Sturm, Chief Clerk
Mark Halverson, Staff Director for the Minority
(ii)
C O N T E N T S
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Page
Hearing:
Monday, March 20, 2000, CFTC Report Entitled ``A New Regulatory
Framework''.................................................... 1
Appendix:
Monday, March 20, 2000........................................... 41
Document(s) submitted for the record:
Monday, March 20, 2000........................................... 103
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Monday, March 20, 2000
STATEMENTS PRESENTED BY SENATORS
Fitzgerald, Hon. Peter G., a U.S. Senator from Illinois,
Chairman, Subcommittee on Research, Nutrition and General
Legislation, Committee on Agriculture, Nutrition and Forestry.. 1
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WITNESSES
PANEL I
Paul, Robert C., General Counsel, Commodity Futures Trading
Commission, Washington, DC..................................... 2
PANEL II
Brennan, David P., Chairman, Chicago Board of Trade, Chicago,
Illinois, accompanied by Thomas Donovan, President and Chief
Executive Officer, Chicago Board of Trade, Chicago, Illinois... 14
Crapple, George, President, Managed Funds Association, New York,
New York....................................................... 29
Downey, David, Executive Vice President, Interactive Brokers LLC,
Chicago, Illinois.............................................. 32
Lind, Barry, Chairman, Lind-Waldock & Company, Chicago, Illinois. 23
McNulty, James J, President and Chief Executive Officer, Chicago
Mecantile Exchange, Chicago, Illinois.......................... 15
Wilmouth, Robert K., President, National Futures Association,
Chicago, Illinois.............................................. 11
Waye, Jan R., Senior Vice President, Cargill Investor Services,
Inc., Chicago, Illinois........................................ 26
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APPENDIX
Prepared Statements:
Fitzgerald Hon. Peter G...................................... 42
Brennan, David P............................................. 60
Crapple, George.............................................. 77
Downey, David................................................ 87
Lee, Peter................................................... 82
Lind, Barry.................................................. 95
Paul, Robert C............................................... 46
McNulty, James J............................................. 51
Waye, Jan R.................................................. 74
Wilmouth, Robert K........................................... 67
Document(s) submitted for the record:
CFTC (report) A New Regulatory Framework, submitted by Jan R.
Waye....................................................... 104
CFTC REPORT ENTITLED ``A NEW REGULATORY FRAMEWORK''
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MONDAY, MARCH 20, 2000
U.S. Senate,
Subcommittee on Research, Nutrition, and General
Legislation, of the Committee on Agriculture, Nutrition,
and Forestry,
Washington, DC.
The Subcommittee met, pursuant to notice, at 10:05 a.m., in
room 2525, Dirksen Federal Building, 219 South Dearborn Street,
Chicago, Illinois, Hon. Peter G. Fitzgerald, Chairman of the
Subcommittee,) presiding.
Present or submitting a statement: Senator Fitzgerald.
OPENING STATEMENT OF HON. PETER G. FITZGERALD, A. U.S. SENATOR
FROM ILLINOIS, CHAIRMAN, SUBCOMMITTEE ON RESEARCH, NUTRITION,
AND GENERAL LEGISLATION, OF THE COMMITTEE ON AGRICULTURE,
NUTRITION AND FORESTRY
The Chairman. This hearing will come to order. This is a
hearing on the Subcommittee on Research, Nutrition and General
Legislation of the U.S. Senate Committee on Agriculture,
Nutrition and Forestry.
The purpose of the hearing is to examine proposed
regulations that may be coming forth from the Commodity Futures
Trading Commission. CFTC has suggested that it is willing to
grant broad regulatory relief to futures exchanges and create a
new regulatory--framework.
I've asked each panelist, instead of reading the prepared
remarks, to instead summarize their remarks as best they can.
I'm going to set a good example by sparing you the reading of
my opening statement which I am now going to ask myself for
permission to submit for the record.
And with that, Mr. Paul, welcome to Chicago and please, why
don't you begin.
[The prepared statement of Senator Fitzgerald can be found
in the appendix on page 42.]
STATEMENT OF C. ROBERT PAUL, GENERAL COUNSEL, COMMODITY FUTURES
TRADING COMMISSION, WASHINGTON, DC., ACCOMPANIED BY PAUL
ARCHITZEL, DIVISION OF ECONOMIC ANALYSIS
Mr. Paul. Thank you Mr. Chairman. I'm pleased to be here to
testify before you on behalf of Chairman Rainer and appreciate
the opportunity to discuss recent efforts at regulatory reform.
I also want to introduce you to my left, Paul Architzel
from our Division of Economic Analysis who headed up the task
force that prepared this regulatory framework that we are
discussing today.
I will try to summarize my written remarks as briefly as
possible but I am sure, Mr. Chairman, that you can feel free to
interrupt me as I go through this with any questions you may
have and I'll leave time at the end to answer any questions you
might have.
Chairman Rainer has identified three public policy goals on
which the CFTC should focus in regulating derivatives markets:
first, creating a comfortable climate for competition in all
sectors of the industry; second, removing any regulatory
barriers that hamper these markets from fully exploiting
innovations in technology; and third, decreasing the level of
systemic risk in domestic and international derivatives
trading. To achieve these goals it is imperative to modernize
the way we regulate futures markets.
Accordingly, a staff task force of the Commission has
developed a new regulatory framework that would change the
regulatory structure for derivatives. The proposed framework is
intended to promote innovation, maintain U.S. competitiveness,
reduce systemic risk, and protect derivatives customers.
The new frame work is a work in progress; it is a staff
document on which there has been no Commission action to date.
The CFTC intends to hold at least one public hearing on this
proposal to get as much input as possible from the markets and
participants. We want to find solutions that serve the public
interest. But we also recognize that time is not our ally. In
spite of the difficulty of developing answers to questions of
regulatory architecture, we must work together to expeditiously
reach conclusions suitable for these markets and the public
interest.
Technology offers us tangible benefits that are either
immediate or imminent, including faster and better execution;
significantly lower transaction costs; cross-market clearing,
netting and offsetting systems; and increased liquidity. The
U.S. futures industry must embrace technology without
reservation to build stronger markets if it expects to remain
competitive.
Flexibility is the hallmark of the new framework. The
staff's proposal recommends that the Commission replace the
current one-size-fits-all regulation for futures markets with a
structure that would instead apply broad, flexible ``core
principles,'' which are tailored to match the degree and manner
of regulation to a variety of market structures and
participants. Under this proposal, multilateral trade execution
facilities will operate in one of three categories, taking into
account the nature of the underlying commodities and the
sophistication of the customers. While the framework invites
changes, it does not impose it on established futures
exchanges. Existing exchanges operating as contract markets may
reorganize under the terms of the framework, but they are not
compelled to do so.
The framework offers the following three basic categories
of exchanges or trading facilities correlating to a spectrum of
regulation: recognized futures exchanges, recognized derivative
transaction facilities and exempt multilateral trading
facilities. And I want to compliment the Chairman on getting
those rather accurately in his introduction.
The category recognized futures exchange [RFE], or an RFE,
would include multilateral transaction execution facilities
that permit access to any type of customer, institutional or
retail, and that trade any type of contract, including those
that are based on commodities that have finite deliverable
supplies or cash markets with limited liquidity. Because these
markets trade markets that may have a greater susceptibility to
price manipulation and because the presence of non-
institutional traders participating here raise deeper concerns
for customer protection, RFEs would be subject to a higher
level of Commission oversight than market in either of the
other two categories.
Nonetheless, the proposed RFE offers significant regulatory
relief compared to the current requirements applicable to
designated contract markets. Detailed prescriptive rules would
be replaced with 15 broad ``core principles.'' These include
principles relating to market surveillance, position reporting,
transparency, fair trading and customer protection. Any board
of trade, facility, or entity that is currently required to be
designated as a contract market would be eligible to qualify as
an RFE.
The second category, the derivatives transaction facility
[DTF], would be subject to a lesser degree of Commission
oversight. A facility would be eligible to become a DTF if: (i)
the contracts traded on the facility are for commodities that
have nearly inexhaustible supplies or for which there is no
underlying cash markets (e.g., weather derivatives); (ii) the
Commission determines on a case-by-case basis that the contract
would be appropriate for this level of regulation; or (iii) the
facility limits access to commercial traders only.
A DTF would be required to adhere to only seven core
principles, including those relating to market oversight,
transparency, and recordkeeping. Because a DTF either would be
limited to commodities that are not susceptible to manipulation
or would limit access to institutional or commercial
participants, a DTF would not be required to adhere to certain
other core principles applicable to an RFE such as those
relating to position monitoring, customer protection or dispute
resolution.
Finally, the third category, the exempt multilateral
transaction execution facility [MTEF], or exempt MTEF, would
operate on an unregulated basis. This would be a self-
effectuating exemption for transactions among institutional
traders in commodities that are unlikely to be susceptible to
manipulation.
These markets would be exempt from all requirements of the
Commodity Exchange Act and Commission regulations, except for
anti-fraud and anti-manipulation. Moreover, if a designated
contract market elects to trade an eligible contract that
serves as a sort of price discovery on an exempt MTEF, the MTEF
would be required to continue to provide pricing information to
the public. Exempt MTEFs would not, however, be permitted to
hold themselves out to the public as being regulated by the
Commission.
That is a brief overview of the staff's regulatory
proposal, and I would be happy to answer any questions. Thank
you again for the opportunity to testify before you today.
[The prepared statement of Mr. Paul can be found in the
appendix on page 46.]
The Chairman. Mr. Paul, thank you, and I think you gave a
very good, concise explanation of the three different
categories that would be available.
Let me ask you the threshold question. I believe in the
CFTC's report to Congress about these proposals that you
suggested that you have the ability to implement it through
your own regulatory powers without any help from Congress. Does
the CFTC believe that this proposal should or should not be
codified by Congress?
Mr. Paul. Well, although we believe that we have proper
statutory authority under Section 4(c) to adopt these
regulations without legislation, we do see a benefit in working
with your Subcommittee and Chairman Lugar's Parent Committee in
codifying some of the structure. We think that it would perhaps
enhance the ability to get meaningful legislation adopted that
would greater legal certainty to the markets.
The Chairman. If Congress decides to, as we rewrite the
CEA, codifying the core principles and having three different
layers?
Mr. Paul. I am not sure that we would go as far as
codifying, suggesting that you codify the core principles, only
because that might detract from the kind of flexibility that we
hope to achieve through this regulatory framework. But I think
what we had discussed internally, and I think already
discussing with Congressional staff, is codifying the
categories and maybe some of the over-arching concepts without
necessarily delving into the kind of detail that you would find
at the 15 core principles for the RFE, or the seven core
principles for the DTF.
The Chairman. This proposal would really not depend on what
type of physical exchange you are, whether you are a pit based
exchange or an electronic exchange. It would go beyond those
areas and an electronic exchange could try to qualify
theoretically to be a recognized futures exchange, I suppose.
In addition a pit based exchange could at least try to be a
recognized derivatives transaction facility. And possibly, if
they are just institutional traders trading commodities with
inexhaustible supplies and no underlying cash market, a
traditional pit based exchange could try to become an exempt
multilateral transaction facility.
Mr. Paul. I could not have said it any better myself. That
is the beauty of this proposal. I think the staff, working with
Mr. Architzel, had their different approaches including those
that might be based on what the medium is, but we think that
kind of flexibility that we put into this proposal is of
greater benefit to the markets. We let the markets choose which
medium it would like to trade in, and by gearing the
regulation, calibrating it according to what products and who
the participants are, we think we can achieve regulatory goals
without unduly hampering the innovation on the technology side.
The Chairman. Now, both of the main futures exchanges in
Chicago, the Chicago Board of Trade and the Chicago Mercantile
Exchange, are now considering proposals to reorganize
themselves internally. The Chicago Board of Trade is
considering creating two separate companies, one that would be
an on-line company and the other that would be the traditional
pit based exchange.
Would a change in these regulations affect the way those
exchanges might want to be organized? If they decided that they
wanted to have an RFE, a DTF and an exempt MTEF, would they
have to have three separate subsidiaries? How would this work?
Would each have to have a separate legal identity?
Mr. Paul. The framework currently would call for separate
entities for different type of structures, but we are
discussing that, because our interest is making sure that the
participants know exactly what level of regulation that they
are engaging in. So therefore, I think the original inclination
was to have separate entities. But I think that we are
considering whether or not we want to provide the kind of
flexibility that may be able to allow a single entity to offer
different types of markets, as long as it is clear to the
participants, to the customers, which entity they are trading
and therefore, what level of protection that they might be
protected by.
Mr. Architzel. Just to clarify. Recognized markets can be
traded under the same legal entity. It is only the exempt MTEF
that is required to be traded through a separate legal entity,
because that level is not regulated. So the exchanges would
have the ability to operate both the RFE and the DTF under the
same legal entity.
The Chairman. OK. So that one legal entity could have the
RFE and the DTF, but if you wanted to have the exempt MTEF you
would have to have a separate subsidiary or a separate company.
Mr. Architzel. Exactly.
The Chairman. OK. That clarifies. That is important.
Now, to be a recognized derivatives transaction facility, a
recognized DTF, you say that there would be two main
requirements: First, only commodities with, nearly
inexhaustible deliverable supplies, no underlying cash market,
or contracts that the CFTC allows on an individual case-by-case
basis could be traded. Secondly, commercial traders would be
allowed to trade. What do you mean by commercial traders?
Mr. Paul. I'll try to clarify that. That is either/or, Mr.
Chairman.
The Chairman. OK. That is right. So in other words, retail
customers and that would not be a problem. If they are dealing
with commodities, such as Euro dollars or foreign currencies,
commodities a nearly inexhaustible deliverable supply?
Mr. Architzel. That is correct. Retail customers are
permitted with special enhanced protection. This DTF is
intended to be a market mainly for institutional customers. But
if the market qualifies as a DTF on the basis of the nature of
the commodity, then it is possible for retail customers to
access the market if certain conditions are met. Those
conditions are that the customers trade through a registered
FCM, that the FCM be a clearing member of at least one RFE and
that the FCM meet a higher minimum net capital standard.
The second group of markets that can be a DTF are markets
which are open only to commercial traders. This type of DTEF,
which is essentially B-2-B, is only commercial traders is open
for any commodity. So these are two very distinct types of
markets.
The Chairman. OK. So you could envision an agricultural
commodity being traded in a DTF provided that only
institutional participants are involved?
Mr. Architzel. At this point we have not limited the types
of commodities that can trade on a DTEF, although the staff
report recommends that the Commission seek comment on whether
agricultural commodities in particular should be qualified to
belong in this category. So that is something that we recommend
that the Commission seek comment on. Agricultural commodities
have somewhat different characteristics and in the past were
sometimes treated differently under the regulations. But
certainly any physical commodity could belong in the DTF
category and qualify for it, if the market were restricted to
commercial traders.
The Chairman. Now, let me just talk about commodities with
a nearly inexhaustible deliverable supply. Do you fit United
States Treasury Bonds in that category?
Mr. Architzel. That is a ``moving target'' right now.
The Chairman. Because the supply is going down. I mean it
is 3.5 trillion outstanding right now, but it is scheduled to
go down to zero by 2015.
Mr. Architzel. I think that is something that needs to be
addressed further. We should have guidelines saying what
commodities fit into this category. And as markets change, as
commodities change, we could review and revise the guidelines.
The Chairman. Now, on the exempt multilateral transaction
facilities, would I be correct to surmise that no retail
customers could, under any circumstances, be allowed in that?
Mr. Architzel. That's correct.
The Chairman. That would be totally institutional. Right
now the current sections of the CEA that provide the principle
regulatory framework for the CFTC are Section 5 and 6 of the
CEA.
How would the new regulatory framework impact those
sections?
Mr. Architzel. The core principles summarize and digest
most of the provisions in Section 5 and 5a, and would serve as
a replacement by and large for those individual sections of the
Act. In other words, sections 5 and 5a of the Act, talk about
the manipulability of commodities, and there is a core
principle that relates to that. So the core principle would
serve as an alternative to that provision of the Act.
The Chairman. The report recommends, as you have talked
about, that the current CFTC regulatory framework be replaced
with the derived four principles that are intended to encompass
all technology and business organizations. However, the report
does not address in detail how these principles are to be
implemented or provide guidelines for industry participants to
follow.
Who will determine how industry participants will apply
these principles and how they will be accomplished?
Mr. Architzel. The report envisions that the core
principles will be accompanied by statements of acceptable
practices or best practices, and those would be interpretive
statements by the Commission, giving guidance to the industry
on compliance with the core principles. We also envision that
the interpretive statements would be written in cooperation
with the industry and envision that the National Futures
Association will be providing input to us on those as well.
I think it is important to note, though, because those
would be acceptable practices, they would not be exclusive of
other ways that facilities could come to us and demonstrate
that they are in compliance with the core principles. That is
what we are trying to achieve from this framework, as opposed
to giving the specific prescription as to how they should
achieve these goals, but leave it open to them. But we give
them the convenience of knowing if they do things in a certain
way that creates a safe harbor.
The Chairman. OK. According to your report, non-
institutional customers require greater market protection than
institutional or commercial customers. Non-institutional
customers may be permitted access on both an RFE, a recognized
futures exchange, and DTF facility, recognized derivatives
transaction facility, although the core principles for an RFE
contain provisions for customer protection and dispute
resolution for non-institutional customers. The DTF core
principles do not contain such provisions.
Could you explain the absence of the customer protection
and dispute resolution provisions in the DTF core principles?
Mr. Paul. Well, I will start and Paul can supplement it. We
feel that we can achieve customer protection for the non-
institutional customers trading on DTF by regulating the
intermediary. And this is frankly a concept that we learned by
soliciting comments from the industry. And we think that as
long as we have an intermediary that is a registrant of the
CFTC, and therefore, is obligated to follow the CFTC rules with
respect to risk disclosure, segregation of assets, making sure
that they get the information they need on the markets, that we
can protect the customer at that level as opposed to doing it
at the exchange level.
Mr. Architzel. I think the additional thing to note is that
although there is not the dispute resolution provision, there
would be the availability of the CTFC reparation procedures
which is like a small claims court for customers who feel they
have been injured by a violation of the Act or regulations. And
those would remain available to retail customers, because they
would be trading through registrants.
The Chairman. You have a lot in your report about the
segregation of customer funds. If I read it correctly,
institutional customers would be able to opt out of requiring
that their funds be segregated; was that how you set this up?
Mr. Architzel. That is only if the DTF has rules providing
for that. And in doing so, in providing those rules, they would
also have to provide for financial disclosure and other types
of disclosures to market participants on what the effects would
be by having the opt out allowance.
The Chairman. If those funds are not segregated and there
is a problem, it really gets hard to trace, does it not? How do
you determine whose money was taken, misappropriated or
misapplied?
Mr. Paul. Well, I guess we believe that, that is a risk
that we would allow certain customers to take as long as they
are fully informed of what the risks are. And that is also why
we are not recommending that, that be permitted at the
recognized futures exchange level. And just parenthetically,
when the task force originally put together this proposal, they
had another category between the RFE and DTF known as a
recognized institutional futures exchange, which would be
somewhere in between the regulatory framework on the spectrum
of regulation, and that would be created so that institutional
customers could opt out of seg. We found that there was not a
real appetite for that in the market. So we thought we would
simplify it with just the three big markets we have now.
The Chairman. You figured that the big boys who are
participating in the markets can take care of themselves. That
they would probably demand their funds be segregated or have
those kind of protections that they could handle, is that
correct? Whereas, a retail customer might not think of that
issue, is that correct?
Mr. Architzel. This issue has come up over the years. There
are foreign exchanges that operate without segregation of
customer funds, and generally that is available for larger
customers as an option. Over the years our exchanges have said
that they would be able to compete more effectively with
foreign markets if they were able to make adjustments to. So
that is something that we are comfortable with for large
institutional customers only, provided that appropriate
disclosures are made at the market level.
Mr. Paul. One of the reasons, just to finish this thought,
one of the reasons why there did not seem to be a keen appetite
for the RFE is because the proposal also recommends that we
broaden the permissible investment of segregated funds. And
that is really why not only customers, but also the
intermediaries were reluctant to extend segregated funds any
further than they had to because they would get low return on
those funds that were segregated, to the extent that we have
made it a little broader possibilities as to what they could
invest it in and provide better return, the need to opt out of
seg is not as acute.
The Chairman. OK. Now, the first page of the report
recommends that the Commission propose a quote, ``new
regulatory framework to apply to multilateral execution
facilities that trade derivatives.''
How does the CFTC define, quote, ``transaction execution
facility,'' and what is the CFTC's position on the meaning of
multilateral? What is the CFTC's position on the meaning of
this term in the context of the current swaps exemption?
Mr. Paul. Well, that is actually one of the thorniest
concepts that we are wrestling with right now, Mr. Chairman.
And we are engaged in ongoing discussions both internally and
with various representatives of the industry, to come up with a
definition that we will include in our proposed rule making,
that will better define what a multilateral transaction
execution facility is.
Beyond that, I think at this point it is such an inchoate
issue that I think that we probably cannot give you much
further guidance at this time.
The Chairman. So that is a work in progress?
Mr. Paul. That is where the rubber meets the road on the
current proposal.
The Chairman. OK. We are going to have to come up with all
the details to actually get these regulations or statutory
things enacted.
The report states that the registration process should be
``streamlined,'' quote, unquote, for futures commission
merchants and introducing brokers; however, it does not state
in any detail how this is to be done.
Would you explain what the report means by streamlining the
registration process?
Mr. Architzel. The streamlining envisioned there is
accepting various types of accounting reports at various stages
during the year, rather than requiring a certified audit at the
time of actual filing for registration. That is the nature of
streamlining envisioned.
The Chairman. OK. The report provides for an exempt
multilateral transaction facility in which a facility could
choose to operate a market exempt from commission regulations
except for the anti-fraud and anti-manipulation provisions.
This facility would only be available to institutional traders
who trade commodities with inexhaustible deliverable supplies,
or supplies that are otherwise sufficiently large to render a
contract traded unlikely to be susceptible of manipulation.
Doe not this exemption operate to deny retail customers
access to the most liquid markets?
Mr. Paul. Well, Mr. Chairman, the retail customer currently
does not have access to all markets. We do not think that we
are denying access by virtue of our proposal. In fact, we
actually think that we are providing them with access to
certain markets they might not currently have through some of
the flexibility we have built into the DTF category.
So to the extent that retail customers currently trade in
designated contract markets, they will be able to continue to
do so through the recognized futures exchanges. We think they
will probably get access to broader markets through the DTF
category, but the exempt MTEF category is really designed to
provide a regulatory framework that the over the counter market
that currently exists completely outside of our regulation to
operate under.
The Chairman. They do not have access to that now; namely,
the over the counter market involving private contracts. I
notice that you suggest that you suspect that many over the
counter type markets now might want to become DTFs so that they
could have that imprimatur of CFTC regulation. Would you
explain your thinking on that a little bit more? Do you see
some positive advantages in saying that you are regulated. Do
you believe people might have more faith in the integrity of
the markets if they know that you have that regulatory check?
Mr. Paul. Absolutely. And we believe that there is interest
amongst certain types of markets and certain market
participants to trade in a regulatory environment. All
regulation is not bad. Many market participants seek the U.S.
markets because of its high regulatory integrity, because of
the sense that the markets and the participants are being
looked after. So for those types of markets we certainly don't
want to deny them a home if they are looking for some place
that they can provide greater comfort to their participants and
for their products.
Mr. Architzel. It is also noteworthy that the recognition
that the Commission bestows on markets, either the RFE or the
recognized DTF, corresponds to those minimum regulatory
standards that other regulators internationally subscribe to,
so that recognition as a DTF carries with it an acknowledgement
that, that market meets the minimum international standards. It
may therefore make it easier for a market which intends to do
business globally to get approved by regulators in foreign
countries as well.
The Chairman. I see. What would you say are minimum
standards internationally, though? What basis is there for
saying there are minimum standards internationally?
Mr. Architzel. The staff spent a lot of time looking at
guidance put out by various organizations of international
regulators such as IOSCO, which is an international securities
regulatory body. Over the years we have cooperated with those
groups to harmonize our rules and regulations. So at this point
there is a great deal of guidance put out by these
international groups that most international regulators
subscribe to. And our core principles correspond with that
guidance very closely.
The Chairman. Finally, I want to ask you a couple other
questions. This is a little bit off the main subject of our
hearing, which is your proposed new regulations. Many of the
Chicago participants are interested in allowing futures on
individual stocks. I know that, that will probably be the
subject of several other separate hearings. But I was
interested in how the margins are now set on stock index
futures. Reading the CEA, it looks like it is really up to the
Federal Reserve, but if the Federal Reserve declines to set up
margin requirement, the CFTC steps in and sets a margin
requirement.
What is the margin requirement now on stock index futures
and who has set that?
Mr. Architzel. The exchanges in the first instance set the
margin requirements, and report to us for approval of those.
They are currently set at levels which cover very high
confidence numbers above 99-percent for market movements on a
daily basis in the market.
The Chairman. What is the margin requirement? Do you know?
Mr. Architzel. I would have to provide that data for you
for the record in a written statement.
The Chairman. OK.
Mr. Paul. And one of the things that we have discussed with
the SEC in our negotiations on Shad-Johnson is coming up with
some sort of harmonized margin requirement for single stock
futures regardless of where they trade. And we have discussed
various approaches. The SEC has its own opinion on the subject.
I do not want to speak on their behalf, but it seems like I
think we are moving toward meeting in the middle on margin
requirements that may begin to equity options as being really
the closest parallel, but preferably something that is based
on----
The Chairman. Are those margin requirements about 50-
percent?
Mr. Paul. Fifty-percent, Mr. Chairman, is for the actual
stock. The equity options, and similar to what the futures
exchanges do on index contracts is it is risk based and the
span margining system that the Chicago Mercantile Exchange has
developed which is probably the best at trying to calibrate, or
at least take into account, the volatility of the instrument.
And we think that is probably the approach that we should agree
on with the SEC on a consistent margin framework for single
stock futures, and whether that is done under the auspices of
the Fed or done through an memorandum of understanding between
the SEC and the CFTC and through the review process of the
exchange margins. Those are the kinds of issues that we are
trying to hammer out right now.
The Chairman. OK. My final question is how long did it take
you to come up with this new proposal? I saw you had a task
force that put this together. How long have they been working
on this?
Mr. Architzel. We started in October.
The Chairman. And you got it done that rapidly?
Mr. Architzel. Yes.
The Chairman. That is very good work. I want to compliment
the CFTC on their proposals here. They seem to me, at least at
first blush, to make a lot of sense. I have heard a lot of
positive comment. I look forward to hearing in more detail what
some of the others have to say today. But I want to compliment
Chairman Rainer on moving the CFTC in this direction, and with
the speed with which you acted. I think you have a pretty solid
framework for us to work on. So thank you all very much.
Mr. Paul. Thank you, Mr. Chairman.
The Chairman. Now, we can move to the second panel. On the
second panel we have James J. McNulty, President and Chief
Executive Officer, Chicago Mercantile Exchange; Mr. David P.
Brennan, Chairman, Chicago Board of Trade; Mr. Thomas R.
Donovan, President and Chief Executive Officer, Chicago Board
of Trade; and Mr. Robert K. Wilmouth, President of the National
Futures Association.
And again, if I could ask each of you to summarize your
thoughts rather than reading the prepared remarks, I would
appreciate that. We will submit your prepared remarks for the
record. Also, I notice some of you, in your prepared remarks,
had a lot about the possibility of futures on individual
stocks. That is a little bit beyond the scope of today's
hearing. While that is a great topic, I would probably hear
from Bill Brodsky over at the CBOT real quick if we get too far
down that road. So I want to keep it pretty much on target, on
the proposed new regulations that the CFTC has come up with.
I would also like to hear from the two exchanges on how
these new proposals might affect your own plans for
reorganization, both of which you both have underway already.
If these regulations came into effect, would you want to
rethink in any way your proposals for reorganizing, so that you
could take advantage of these separate possible regulatory
schemes.
I do not know if we have a volunteer to go first. Would Mr.
Wilmouth like to go first? Thank you for coming here.
STATEMENT OF ROBERT K. WILMOUTH, PRESIDENT AND CHIEF EXECUTIVE
OFFICER, NATIONAL FUTURES ASSOCIATION
Mr. Wilmouth. Thank you very much, Mr. Chairman. I
appreciate the opportunity to present the views of the National
Futures Association on the CFTC's proposed new regulatory
framework which we think is one of the most important
developments in the futures industry since the creation of the
Commission itself. And I will confine my remarks specifically
to the CFTC's proposed new regulatory framework.
We all know that we are facing great competition, both from
off shore markets and over the counter markets, and the
regulation of the industry must be overhauled and streamlined
if regulated markets are going to remain competitive and be
attractive. In short, we have to find new ways to reduce
regulatory burdens without reducing regulatory protections.
One way to achieve that goal is to maximize the use of
self-regulation, while returning the Commission to its intended
role of overseer of the self-regulatory process rather than as
a micro manager. The Commission's proposed framework is
dramatic and it is a bold step.
The focus on core principles for both exchanges and
intermediaries is exactly the right approach. The Commission
should tell those that it regulates what they have to do, not
how to do it. The answer to the how question changes with every
new development in technology. That is why the role of self-
regulation will be even greater in the markets of tomorrow.
Technology is really tearing down the barrier of entry
faster than any government policy ever could. From 1977 to 1999
there were no new futures exchanges formed. In the last 6-
months, at least six different enterprises have stated their
interest in creating new electronic futures exchanges. All of
them are dedicated to using effective self-regulation to insure
the integrity of the marketplace, and the public's confidence
in those markets. But none of these new exchanges that are in
the formation stages are really shackled by the past. Every one
of them is looking for more efficient ways to perform their
self-regulatory functions, and every one of them has contacted
NFA to discuss outsourcing that function to us.
My point is simply not that NFA is going to play an even
greater role in the years ahead, but that the flourishing
number of exchanges and the corresponding changes to the entire
industry, including its self-regulatory functions need action
now, today. Time is of the essence. And we would urge both the
Commission and Congress, Mr. Chairman, to move ahead as
aggressively as possible.
We certainly recognize that difficult work lies ahead. The
comments of Paul Architzel and Robert Paul earlier indicate
that. The proposed framework is just that, it is simply a
framework. It does not address the details which will have to
be resolved to move the proposal from the paper world to the
real world. Some of these details should be readily solvable,
but those core principles need to be supplemented with
interpretive guidelines on which the entire industry can rely.
But we suggest first of all how that guidance should not be
provided. If we revert to having regulators in Washington
dictating to the industry how the core principles have to be
followed, we will end up right back where we are now. In
addition, NFA is currently involved with the Futures Industry
Institute on a best practices study on order transmission and
entry, a study directed by the Commission and funded by a
portion of the fine that they imposed in a CFTC enforcement
action. We are convinced that a best practices approach is an
excellent way to supplement the Commission's proposed core
principles and provide the guidance that we think is necessary
to the industry.
Two basic points. When we talk about best practices, we
have to consider the basic question of best practices from
whose perspective. Best practices in our mind have to be
considered from the perspective of the customer. We spent a
good deal of time in our current study talking to end users and
customers and what they want from best practices is very clear.
They want procedures that insure fair treatment and quick
execution at the best price.
Second point. By definition, best practices have to be
developed through direct and active involvement through the
industry. The Commission should specify that the core
principles will be supplemented with best practices guidance,
developed through the industry's self-regulatory process, which
includes NFA and of course, the exchanges.
Another detail which can be resolved quickly involves the
registration process, and you asked a question about that
earlier. The Commission's proposal, as you stated, states that
the registration process should be streamlined but does not
necessarily address how in any great detail. Over the past
several years, NFA has made a number of proposals to simplify
the registration process, and we have recently updated those
suggestions and submitted them to the Commission's staff.
If a firm or an individual has gone through a screening
process in the securities industry, conducting another
background check for registration in the futures industry is
clearly a wasted effort. And we agreed with the Commission's
proposal, in effect, to passport those firms and individuals
into registration. Those passported firms would still, however,
be registered and subject to the same core principles as other
firms. And there needs to be some mechanism to monitor their
compliance with those principles, even if those firms are
dealing with institutional customers.
The answer again is self-regulation subject to Commission
oversight. The Commission's proposal would not require those
passported firms to be members of a futures industry SRO. We
believe that this is an oversight which needs to be corrected.
One of the major questions unanswered also in the current
proposal, and you asked this question, is exactly what the
Commission means by the term institutional customer. There are
at least to my knowledge six different definitions of
sophisticated customer in the Commission's rules. NFA proposed
a uniform definition of sophisticated customer several years
ago that was modeled very closely on the Commission's
definition of eligible swaps participant. That definition has
served very well for many, many years and should be the basis
for the definition of institutional customer in this context.
We would recommend that the threshold test for that term be no
higher than those currently in place.
Another key under the proposal will be the types of
commodities which are not readily susceptible to manipulation,
and should therefore be subject to less regulation. The answer
must be a practical one, dictated by the realities of the
marketplace, rather than theories of the classroom. The end
users of the markets for petroleum products, for example, may
very well have the best perspective on this issue and their
views should be accorded great weight by the Commission.
And finally, Mr. Chairman, let me reiterate our
enthusiastic support for the Commission's overall approach, but
let me also note that this exercise of the Commission's
exemptive authority does not obviate the need for legislative
action. We urge the Commission to move as quickly as possible
to resolve the remaining issues and to enact its proposal. And
we also urge Congress to support that effort and adopt
legislation to codify, as you suggested, the Commission's
approach. Thank you very much.
[The prepared statement of Mr. Wilmouth can be found in the
appendix on page 67.]
The Chairman. Thank you, Mr. Wilmouth. Mr. Brennan. Thank
you.
STATEMENT OF DAVID P. BRENNAN, CHAIRMAN, CHICAGO BOARD OF
TRADE, ACCOMPANIED BY THOMAS DONOVAN, PRESIDENT AND CHIEF
EXECUTIVE OFFICER, CHICAGO BOARD OF TRADE, CHICAGO, ILLINOIS
Mr. Brennan. Good morning, Mr. Chairman. I am David
Brennan, Chairman of the Chicago Board of Trade. With me today
is Tom Donovan, our CEO and President. We want to thank you for
holding this hearing in the City of Chicago, the derivatives
capital of the world. Our theme today is that we want Chicago
to retain the title as the derivatives capital of the world. To
do that, we have to change our way of doing business. And we
are. But we also need to change the way Washington looks at our
business. To do that we need to modernize the Commodity
Exchange Act and tear down the existing barriers to
competition.
Mr. Chairman you have been a true leader on these important
issues in Congress, and we thank you for your insights and your
intellect and your leadership. In quite a short time you have
proven that you are knowledgeable about our issues and
committed to our mutual goals of fair competition and even-
handed government oversight. We thank you for your efforts.
Another new leader in our industry also deserves praise.
CFTC Chairman Bill Rainer is fully committed to rationalizing
regulation of exchanges and the industry as a whole. He has
brought market experience and creativity to the Agency. We
applaud the Chairman's efforts and look forward to working with
him on the finishing touches to his new regulatory blueprint.
We have submitted a written statement that describes in
detail our reaction to the CFTC's New Regulatory Framework. In
summary, the Chicago Board of Trade endorses the CFTC's new
regulatory approach. We believe the CFTC's proposal will add up
to better markets, better competition and better service for
the thousands that use our markets.
Restructuring Federal regulation and restructuring our
business go hand in hand. The CFTC's plan responds to the same
market forces--technology, globalization, innovation, and
competition-- which have also caused the exchanges to
restructure.
The Board of Trade is no exception. Our plan would take our
existing pit trading and electronic trading business lines and
restructure them into two independent for-profit companies.
Both will try to attract business by providing liquid
trading markets. Both will innovate and invest in technology to
provide customers the best service. Both will make every effort
to provide customers with a market that they can trust, and
both markets will compete.
Our plan is designed to give each company and each trading
platform a fair chance to succeed. No business could really ask
for more than that.
Federal regulation is part of that ``fair chance.'' We
believe in open markets and fair competition. To us, similar
products, traded in similar circumstances should have similar
government oversight. That means privately negotiated
transactions may be excluded, but all public execution
facilities should be treated the same. That is our ``golden
rule'' of fair competition.
Today that rule is not being met. After almost 80-years,
the Commodity Exchange Act has become unworkable. Over-the-
counter derivatives, especially in the area of equity swaps,
are plagued by legal uncertainty. Exchange markets suffer from
extreme regulatory arbitrage, which the CFTC's proposal tries
to remedy. For single stock futures, it is even worse. We are
barred from competing at all under a law that we were told 18-
years-ago would be ``temporary,'' until a regulatory impasse
could be resolved.
Mr. Chairman, reform of the Commodity Exchange Act must
cover each of these three areas. All we have ever asked for is
a fair chance to compete. This year's CFTC Reauthorization
offers us a real opportunity to reach that goal. With your
leadership, we are more encouraged than ever before that we
might finally get a fair chance to compete. Again, thank you
for the opportunity to be here, and we appreciate your efforts.
Thank you.
[The prepared statement of Mr. Brennan can be found in the
appendix on page 60.]
The Chairman. Thank you very much, Mr. Brennan. Mr.
McNulty, would you like to proceed?
STATEMENT OF JAMES J. MCNULTY, PRESIDENT AND CHIEF EXECUTIVE
OFFICER, CHICAGO MERCANTILE EXCHANGE, CHICAGO, ILLINOIS
Mr. McNulty. Yes. Thank you, Mr. Chairman, and committee
members, ladies and gentlemen. I am James J. McNulty. I am the
President and Chief Executive Officer of the Chicago Mercantile
Exchange, and I have held this post since February 7th of the
year 2000.
The Chairman. This is a baptism by fire, your first
Congressional hearing. You will have many more over the years.
Mr. McNulty. Thank you. Obviously I come to this hearing
short of experience in the history of the exchange; however, I
have had 25-years of experience in the full range of financial
markets. I have traded and supervised trading in all financial
futures and options and I am sensitive to the needs and
expectations of the over the counter markets, having trading in
the bank, investment bank market for the past 25-years.
I also appreciate the impact of technology on the future of
the financial services industry and I hope that this testimony
reflects that sensitivity.
The CME is exceptionally encouraged by the CFTC staff task
force report, A New Regulatory Framework. The Commission has
been both responsible and responsive to the concerns of all
elements in the financial services industry. We are pleased by
the tone of the proposal, which is consistent with the
progressive regulatory philosophy that depends on oversight and
competition among markets, rather than prescriptive regulation
and protected market spaces.
The CFTC staff under Chairman Rainer has demonstrated a
deepening understanding of the complex technological and
competitive issues facing our markets, and the commitment to
providing much needed regulatory relief. I will discuss our
view of the details of the report and suggestions for
implementing it below.
The task force recommends that the Commission convert its
proposal into proposed rule making, subject to a 60-day-
comment-period and public hearings to provide a full public
airing of the important public policy issues. If those
recommendations are followed, final rules implementing the
proposal are likely to be adopted sooner than 6-months. Senator
Lugar has indicated that the Commission's recommendations may
provide a basis for drafting amendments to the CEA. We agree
that the time is right to act and that legislation, based on
the principles of the report, is better than rule making.
We are less sanguine about reform of the Shad-Johnson
Accord. Eighteen-years ago the Shad-Johnson Accord divided
jurisdiction between the SEC and the CFTC and included a
temporary ban on most equity futures contracts. That temporary
ban lasted 18-years, during which the single stock futures have
thrived in the OTC market in the form of equity swaps and on
options exchanges in the form of synthetic futures. Recently
the President's working group and Congressional leaders have
called for an end to the ban.
Of course, we are pleased that the agencies have agreed
that this is appropriate and that U.S. exchanges would be
permitted to compete in world markets and to offer U.S.
customers the opportunity to manage their risk by means of
equity futures contracts. We are also pleased that they have
found a way to accommodate their jurisdictional and regulatory
concerns on several important issues. But it is too late in the
game to be satisfied with signs of progress. We share Senator
Lugar's disappointment that the agencies were unable to resolve
all of the jurisdictional concerns within the time frame
requested.
Our goal is freedom to give our customers what they want
and need. Remember, we created tremendously useful products,
equity indices, for example, in the face of overwhelming
opposition. The SEC and its client exchanges opposed futures on
indices with all of the same arguments that they now raise
against futures on individual securities. Nonetheless, equity
indices are among the most popular contracts on securities
exchanges, as well as on futures exchanges.
Futures trading of equity indices has enhanced customer
opportunity with none of the ill consequences predicted by the
SEC or securities exchanges. In fact, their business has
directly benefitted.
One-year ago the Chicago Mercantile Exchange, with the
Chicago Board of Trade and NYMEX, undertook to craft amendments
to the Commodity Exchange Act that would enhance competition
and customer opportunity. We continue to believe that the joint
exchange proposal is the best formation for regulatory relief.
However, we are well aware that the legislative and industry
consensus in favor of a good plan, trumps our theoretically
better plan. We are prepared to join the consensus and to give
up our plan in favor of the CFTC staff proposal, if we can
assure Shad-Johnson relief and fix some of the minor flaws in
the CFTC plan.
Our goal was and remains equivalent regulatory treatment
for functionally equivalent execution facilities, clearing
houses and intermediaries. If we can get to that goal by the
path of the CFTC's proposal, then let us proceed with
reasonable haste. Thank you very much for the opportunity to
give testimony today.
[The prepared statement of Mr. McNulty can be found in the
appendix on page 51.]
The Chairman. Thank you very much, Mr. McNulty. Mr.
Donovan, did you want to add anything?
Mr. Donovan. David Brennan presented our testimony. What I
would like to do, though, is thank you for having this hearing
today, because this is a process that we have been engaged in
for a number of years. The clock is ticking, and we have a
short year. We know the members of Congress are going to want
to get out as early as possible this year, and quite honestly,
I am afraid if we do not complete the process this year, that
Congress will grow weary of this issue. So I harken to Senator
Lugar's admonition at the last hearing, that we had better
resolve this and work closely with all segments of the
financial services sector to move this along. I do think that
there are some things that we have to have from this
legislation. Namely, a codification of what the CFTC has put
forward, because having lived with the CFTC for the past 20-
years and a number of chairmen, commissioners and staff, it is
very important for us to put something in place that also
provides legal certainty for the futures industry so that we
can deal with the future.
The Chairman. Well, thank you. Let me just pick up on your
remarks, Mr. Donovan. Right now, the CEA is being rewritten, we
have not come forward with a proposal. We have not even passed
a proposal out of the Committee. At the same time, the CFTC is
proposing new regulations. Meanwhile every day you have all
sorts of new types of competition. You are looking at
reorganizing yourselves to better address the future
competition and the competition that you have out there now.
You are being hurt by the lack of legal uncertainty in that you
do not know what the new CEA is going to look like. You do not
know what the new regulations are going to look like.
How is this uncertainty impacting the Chicago Board of
Trade's plans for reorganizing itself?
Mr. Donovan. I think, first of all, we are moving ahead at
full speed because we really believe that we have to
restructure the exchange. Chairman Brennan has taken on the
initiative, and he has done a tremendous job of moving it along
under very difficult circumstances. It is difficult to change a
membership organization when you are having success. But we
realize that the future is moving at Internet speed and we have
to make plans for our restructuring as though Congress will
address that legislatively and will give us the regulatory
framework and flexibility to do what we propose in our plan.
If you saw today's issue of ``Crain's''.
The Chairman. I read it, yes.
Mr. Donovan. There is a piece in there from Chairman
Brennan where he talks about the blueprint that we have. Well,
we are moving very quickly to separate two companies. Each of
them will have different needs, and each of these companies
will have to find a regulatory framework with which to function
and one that, once a law is passed, will not be so rigid that
the day after the bill is signed that new technology will not
dictate that it be changed, because Congress is not going to
come back to this again in the near future. So it is our hope
that we will have enough flexibility and have a performance
standard, rather than a design standard, that we can look to
for guidance as the goals that we have to achieve after this
legislation is passed.
The Chairman. When do you hope to accomplish your proposed
reorganization? Would you want to address that?
Mr. Brennan. Mr. Chairman, for my purposes I wish it was
yesterday. But, we are waiting for about two more pieces of the
plan before we can go to a membership vote. As soon as I can
get those, I am planning on scheduling a special Board meeting,
and the vote will be 30-days after that special Board meeting.
Right now, I am waiting to hear from an independent allocation
committee which is made up of our five individual directors.
Their job is to determine the allocation of stock, because we
have five different classes of membership. That is pretty much
dictated by law.
The Chairman. Ultimately you would have two separate
companies, one which would be the pit based exchanges, and the
other which would be the electronic exchange.
Mr. Brennan. That is correct.
The Chairman. Now, just looking at these new regulations,
and maybe I am premature in asking this, but would you be
trying to become an exempt multilateral transaction facility
for the electronic exchange and remain a recognized future
exchange for your pit based? Do you have any ideas on this?
Mr. Brennan. We have not gotten into that kind of detail
yet, but I think we are going to analyze our business by
product and we expect to be trading the same products in both
places. To the extent that we can reach the flexibility we need
with both, we will approach it on a product basis I would
expect.
The Chairman. But these proposed changes, once they occur,
could have a huge impact on your reorganization, could they
not?
Mr. Brennan. Yes.
The Chairman. Yes. Mr. McNulty, how would these proposed
changes affect the Mercantile Exchange's proposed
reorganization?
Mr. McNulty. Well, Mr. Chairman, having advised some
airlines and utilities and banks even in their recent
deregulation and changes of technology, one of the things that
we found is that you need to be a speedy decision maker and you
need to be able to make the right kinds of investment. So the
Chicago Mercantile Exchange has filed an S-4 with the SEC in
order to demutualize the exchange. And what we hope to gain by
that, of course, is the ability to work more flexibly with the
capital structure and also the ability to have a corporate
governance that is streamlined and allows us to make those
speedy decisions.
This change in regulation will cause us to make some legal
steps, undoubtedly. So we would imagine, for example, that the
recognized futures exchange and the derivatives transaction
facility would be essentially in the parent firm, following
demutualization. And then we could imagine that the exempt
multilateral transaction facility would be a subsidiary of the
parent firm.
The Chairman. As Mr. Paul pointed out, they would envision
that the exempt multilateral transaction facility would have to
be a separate corporation, a separate legal entity.
Mr. Wilmouth, how do the proposed regulations change or
expand the role of the NFA as a self-regulating body for the
industry?
Mr. Wilmouth. It is rather difficult to tell at this stage
of the game exactly what role we are going to be taking by
intermediaries and the exchanges. We made a basic decision 2-
years ago to put ourselves forward as an outsourcing facility
for self-regulatory functions that have to be performed by the
industry. Over the past 2-years I have made proposals to both
Chicago Board of Trade and the Chicago Mercantile Exchange to
outsource their self-regulatory responsibilities to us. At the
present time they have decided to maintain that in house, but
as they come forward and become electronic exchanges, then we
certainly are going to revisit that proposition.
The other thing that we have done, we are, as I said in my
prepared testimony, talked to six different electronic, seven
different electronic exchanges recently who are just coming to
the forefront with all different types of new products and
wanting to become futures exchanges. We are discussing with
them each of the possibility of outsourcing their self-
regulatory functions to us. So we think this is a broad step
forward for us. We think it has great opportunities for us in
the future and we are gearing ourselves toward that line.
The Chairman. Would the Board of Trade and Mercantile
Exchange, care to comment on what you might do in terms of
taking advantage of the option of having self-regulatory
functions that would obviate the need for greater CFTC
supervision. I do not mean to be putting you on the spot. How
does all this strike you?
To be a DTF you would have to have a self-regulatory body.
I would imagine your internal self-regulation would fit the
bill or you could outsource it. How do you see whether it will
be internal or whether you will contract it out to the NFA? How
do you see the self-regulatory function being changed by the
CFTC's proposed regulations?
Mr. Donovan. Well, I think that looking to a restructured
Chicago Board of Trade, our new ECBOT, so to speak, our
electronic company would be looking to find its way into the
least regulated areas and require less regulation. Just by
virtue of the electronic trading, you have more information
electronically and the markets may require a lesser level of
regulation. As far as the CBOT, the open outcry portion of
that, we feel that right now our self-regulatory front line
function is far and away the best anyway. We think that the
CFTC strictly should be an oversight agency, one that provides
the flexibility for us to use our self-the regulatory structure
as a marketing tool, for people to want to come and trade at
the Chicago Board of Trade.
I have a great deal of respect for Bob Wilmouth and NFA. I
served on the Board from the very beginning, but I really feel
that the regulation that an exchange provides is a front line
regulation and serves as a marketing tool, something that you
can do better than anyone else, that people feel comfortable
trading in your exchange.
Mr. McNulty. I can only echo Mr. Donovan's comments. We
have spent years building a highly disciplined self-regulatory
body in the CME, and we think that is one of the reasons people
come to work on our exchange.
The Chairman. OK. Let me shift gears just a little bit and
ask the Chicago Board of Trade a question specifically.
Although the basis for eligibility as a DTF applies to all
commodities, the report states that domestic agricultural
commodities may constitute a unique category because the
current futures markets tend to be the primary, if not the
only, centralized source of price basing for those commodities.
In your submitted testimony, you recommend that trading in
physical commodities, including agricultural futures, qualify
for DTF treatment. Would you please comment further on the
reasons for your recommendations here?
Mr. Brennan. I will begin. I think rather simply, Mr.
Chairman, we believe markets are markets. And to the extent
that you can provide liquid markets, the less regulatory
burdens you have, the more market players you will have, and
the more people that will come and provide liquidity. Any time
you have any kind of barriers to entry or any kind of
restrictions, it may keep participants away. That ultimately
affects the end users. So very simply, we believe that markets
are markets and if you have the right regulatory structure, a
concern about, whether it be cornering or those issues, I think
that those are handled through the regulatory requirements.
The Chairman. Let me ask Mr. McNulty about clearing
facilities. The report recommends the expansion of clearing
facilities in the United States. Do you support this
recommendation?
Mr. McNulty. Well, I think that clearing facilities, in the
case of the CME, would be one of the major assets of the
exchange. And we could foresee a time when not only do we have
further cooperation than we already have with many of the
global clearing houses, but we also could foresee a time where
we use this as a new source of revenue, where with many of the
new exchanges that are opening up, we could provide them with
back office services, clearing services, settlement, even
dispute resolution as part of a revenue stream for the
exchange.
The Chairman. Mr. Wilmouth, let us return to the best
practices issue. In your testimony, you recommended that the
core principles should be supplemented with best practices
guidelines developed through the industry self-regulatory
process. Would you want to comment further on this
recommendation. Specifically, would you imagine some of the
best practices would be written up in the regulations that the
CFTC promulgates pursuant to whatever changes we make in the
statute itself, or would you imagine that the CFTC would just
have papers on file that people could ask for their best
practices, manuals? How would you envision that would work?
Mr. Wilmouth. Let me, first of all, say that I look best
practices as kind of like a safe harbor, and this is a
constantly changing thing. So I am not certain that I would
want to codify it specifically by the CFTC, because they would
be constantly changing. Let me give you an example of what we
are doing right now, if I may.
With the Futures Industry Association, funded by the CFTC,
we have initiated a best practices study focusing on order
entry and transmission procedures in the futures industry. What
we did is we formed, and this is part of the self-regulatory
process from gathering all the ideas of the best minds in the
industry, we have formed four separate committees to take a
look at the best practices in that specific area. We formed an
operations committee, a technology committee, a compliance
committee and a legal committee, made up of industry
practitioners. Together with some outside consultants, we are
visiting with all of the exchanges, a significant number of the
FCMs. We are even sending some of our consultants abroad to
talk to some of the exchanges over there. We hope to come out
with a best practices in that specific area, through the
cooperation of the entire industry.
I would envision that same practice applying across the
board to all the best practices that we would envision coming
out of the CFTC regulatory reform measure. We think that makes
good sense because it draws on the talent, the wealth of talent
that exists in the industry.
The Chairman. So as these best practices guidelines are
developed, and if there is a market participant who is
complying with those best practices, you would see that as a
safe harbor. If they have been following these types of
practices, they would presumably be safe from getting in
trouble.
Mr. Wilmouth. They would be a safe harbor, that is right.
And I do not think that we want those specified specifically,
because they are going to change over a period of time. They
will constantly be changing.
The Chairman. So we would just maybe refer to a best
practices policy which itself could be ever changing.
Finally, I have a question for all the panelists. You all
agree that we should codify these regulatory changes? Is there
an agreement on that.
With respect to intermediaries, the report recommends
relaxed standards as to risk, disclosure, registration,
financial requirements and the treatment of customer segregated
funds. What do you think of these recommendations?
Mr. Donovan. We are supportive of the recommendations. We
are supportive of a bill that will allow the flexibility to
allow this industry to address the technology, the
globalization and innovation of our competitors. And if we are
unable to do that when this legislation is passed, the business
will not be in the United States.
The Chairman. OK.
Mr. McNulty. I would like to echo Mr. Donovan's comments,
and I can tell you, having been in the OTC markets for 25-
years, it would normally take us 24-hours to turn around a
contract, whether the request came from Hong Kong, Latin
America, Europe, we could turn around and launch a contract in
Switzerland within 24-hours. We are not close to that yet in
the United States, and I think this legislation would lead us
to that point. And I think it would also loosen some of the
restrictions on the intermediaries which would also allow this
market to grow at a faster rate than it has in the past 10-
years.
The Chairman. You really like the idea of being able to
come out with a new contract without getting prior approval;
that is very important to you.
Let me just sum up here. Do you think that this proposal
gives you the type of regulatory relief that you need in the
21st Century, leaving aside the issue of the Shad-Johnson.
Which I am going to try and address Shad-Johnson at an upcoming
hearing and will certainly be something that we will continue
to talk about and be working on.
Mr. Donovan. It is a step in the right direction. It will
definitely depend on how rigid the rules are applied to core
principles. If they take away the flexibility that you need, it
will miss its purpose.
The Chairman. The devil is going to be in the details here,
how we actually put this in the law.
Mr. Donovan. Right.
The Chairman. But you agree with the principles, and you
think it gives you pretty good flexibility and will help you
compete, is that correct?
Mr. Donovan. Yes.
The Chairman. That is good. I am very happy to hear that. I
want to thank you all for testifying today. We will later take
up the issue of futures on individual stocks and Shad-Johnson.
If you read the CEA, and I have it right here, I am struck
first by the many pages that deal with this complicated Shad-
Johnson agreement. It is one of the first things that is
addressed in the CEA. I think we are going to have to work on
that. To be fair, we will have to have other hearings and
receive input from people who might have a different opinion
than yours. We will do that at the time.
I remain committed toward making sure that our Chicago
markets, not only survive, but succeed and flourish in the 21st
Century, and I look forward to working with you all toward that
end. Thank you all very much.
I would now like to take about a 5-minute break before we
bring in the final panel of market participants.
[Recess.]
Could we bring this hearing back to order.
On our third panel of market participants and
intermediaries we have several distinguished panelists. Mr.
Barry Lind, who is from Lind-Waldock & Company, has one of the
largest retail customer bases, as I understand it, in the
country; Mr. Jan R. Waye, Senior Vice President of Cargill
Investor Services; Mr. George Crapple, President of the Managed
Funds Association; and also Mr. David Downey, Executive Vice
President of Interactive Brokers LLC.
Mr. Peter Lee, who is the Managing Director of Merrill
Lynch Futures, has had a family emergency and was supposed to
be here today, but could not be here due to that emergency. I
am going to ask unanimous consent that his testimony be
included in the record. Since there is nobody else here to
object, I will give that consent.
[The prepared statement of Mr. Lee can be found in the
appendix on page 82.]
We will begin with Mr. Lind, the Chairman of Lind-Waldock &
Company. Would you summarize what your company does. And what
its role in the market is. As I mentioned, you have a large
customer base. Could you first describe the manner in which you
participate in the market. If you could stick to the topic of
how these new regulations would affect your company in the
futures market, and stick to that main issue, we would
appreciate it. Thank you.
STATEMENT OF BARRY J. LIND, CHAIRMAN, LIND-WALDOCK & CO., LLC,
CHICAGO, ILLINOIS
Mr. Lind. Thank you, Mr. Chairman, and thank you for the
opportunity to be here. Lind-Waldock is best known for having
the largest retail customer base in the industry. We do a lot
of institutional business and commercial business, but our
primary focus here is on the retail. We are members of almost
all the major exchanges in the U.S. We do a lot of our business
on-line. Over half our orders come in on-line, as the industry
is changing.
The Chairman. From retail customers?
Mr. Lind. From retail customers. We are probably as well
electronically committed and situated as any firm in the
industry. And today I would like to address you in regard to
the retail aspect of things, because I knew there would be a
lot of other people covering the other aspects.
First, let me say that I am very impressed and very happy
that the CFTC and Chairman Rainer are looking to modernize and
rationalize the regulatory framework of the futures market.
Even though this is a work in progress, I would like to commend
him for his good work in harmonizing the interests of the
industry and the market participants. And I think that the work
that he has done has assured us that everybody has gotten a
fair hearing. He is certainly very qualified and he is a
knowledgeable listener. And that is what has resulted in I
think this overall position that we have today of re-
engineering the regulation which I agree with.
In general, I agree with the approach. The regulation needs
to have flexibility that is based on the type of market that is
being regulated, the kind of instruments and the sophistication
of the participants. This allows some markets to operate with
less regulation, an outcome that I think is a good one.
However, there seems to be a consensus that less regulated
markets are appropriate for institutional and for qualified
investors. There is more hesitation to allow individual
investors the advantages that may exist in less regulated
areas.
My own position is that individual investors should be
allowed access to less regulated markets in order to have the
advantages of increased competition that a less regulated
market will bring. I believe that with the appropriate
framework individuals can enjoy this access with substantially
the same protections as the current regulatory environment has.
One of my fundamental convictions is that my customer, in
addition to regulatory protection, should be able to have the
benefit of the best price available, even if it occurs outside
a market that is the most protective of the customer. Any
regulatory scheme that has the effect of keeping my customers
from less regulated markets will be a costly victory for my
customers. They will have all the benefits of protection from
fraud and market manipulation but they will be limited to
markets where largest liquidity providers may have vanished and
it is from this perspective that I offer my comments.
The bedrock of customer protection in current regulations
is the requirement that customers' funds be segregated. And I
commend the CFTC for keeping this requirement as an important
part of the customer protections in any market where an
individual investor is permitted to conduct transactions. I
fully endorse the report's additional recommendation that non-
institutional traders be allowed to access a derivatives
transaction facility only through a registered futures broker
that is a clearing member of at least one recognized futures
exchange, and has a minimum net capital of $20 million.
The benefit of this is twofold. It provides discipline for
the carrying firm by requiring that they have capital at risk,
and it offers the benefit of regular periodic inspections by an
external monitor. And let me say this about the level of
capital requirement. I think that this will tend to exclude
less responsible parties who may be looking to make a quick
buck in these less regulated markets. 20-million will suffice
to keep most of these people, if not all of them, out.
I am pleased that the report calls for changing the net
capital rules to base them on risk. I have been asking for this
for years and years. The current capital rule is an old, old
banking rule and makes no sense in derivative markets. Right
now, as an example, if I have a customer with $100,000 in cash
and no position, I have to put up $7,000 in capital. If,
however, he has 100,000-bushels-of-beans on with no money, and
therefore, I have substantial risk. Today I have no capital
charge for him. So a risk based capital rule would be a move in
the direction of rationality.
Most observers, including myself, expect the deregulated
environment resulting in increased competition. Even though
competition may tighten market spreads in other markets, I
think it will take liquidity away from the recognized futures
exchanges. If this result occurs, the ability to enter into a
transaction in one arena and to offset it in another would
benefit all parties, except possibly the market maker. In my
written testimony I have termed this the universal transfer
mechanism, if you care to look at that.
In a multiple market maker market, I didn't think I would
get through that, there will be multiple platforms on which
trades can be made. In this kind of environment the challenge
is to provide a level of transparency to the price discovery
process. We believe in the not too distant future all trades
will be conducted on electronic trading platform, where our
customers will receive the best bid and offer from the
recognized futures exchanges and the counter parties with whom
we are dealing with. In this environment our customers will
simply point and click on the best market available. However,
we are not there yet.
In the interim we propose that brokers who allow retail
customers to deal in less regulated markets be obligated to
display multiple bids, offers and last sales. These would come
from the market makers with whom the retail customer's broker
is dealing, along with appropriate recognized futures
exchanges. The customer would then simply choose what he
believes to be the best priced market. These multiple prices
should be recorded along with the customer's transaction.
The one thing that the customer's futures broker cannot
totally control is the price. But if the customer can see all
the prices that we have available we have put him in the best
position that he can possibly be in.
I endorse the report's provision for streamlining the
registration of FCM's introducing brokers. I agree that the
mandatory disclosures for non-institutional customers should be
streamlined and make use of a single signature format including
the freedom to accept electronic signatures. All commission
requirements including documentation and record keeping should
be flexible enough to embrace changes in technology without
requiring amendment. In these matters the adoption of core
principles that state the goal of the regulation, rather than
prescribe exactly how the goal should be met, will go a long
way in achieving flexibility in dealing with technical
innovation and make us a lot more competitive.
I favor broadening the range of instruments in which
segregated funds can be invested, and removing barriers
respecting the secured amount requirements for the funds of
customers trading non-U.S. markets. I am very encouraged by
this report. It is a document that recognizes the dual
objectives of regulation, fair markets and suitable customer
protection. It reflects careful thought and sensitivity to the
needs, both of the industry and the market participants. It
moves away from the traditional inflexible regulatory models.
It breaks new ground with its philosophy of core principles and
offers a shining example of both the process that should be
involved in producing regulations and the results that can be
achieved by following this process.
This is a working document that provides a framework to be
fleshed out. Along with everyone affected by this regulation, I
am waiting to see if the final version fulfills the promise of
its beginnings. However, this report does make an excellent
beginning. Thank you.
[The prepared statement of Mr. Lind can be found in the
appendix on page 95.]
The Chairman. Thank you very much, Mr. Lind. May we now
hear from Mr. Waye from Cargill Investor Services. Thank you
for being here.
STATEMENT OF JAY R. WAYE, SENIOR VICE PRESIDENT, CARGILL
INVESTOR SERVICES, INC., CHICAGO, ILLINOIS
Mr. Waye. Thank you, Mr. Chairman. Good morning. Cargill
Investor Services is A global futures commission merchant
operating in all major futures markets around the world. Our
client base can be broadly categorized between fund clients of
which we are going to hear more of later, large commodity
institutions, And large financial institutions. Representing
those clients and speaking on behalf of, in addition to Mr.
Lind, from the FCM community, I would say we broadly support
the recommendations put forward in the staff recommendation to
the Commission. We believe this is a step in the right
direction, to move from a rules based environment to one guided
by broad principles with specific recommendations for best
practices.
I would, however, like to make four comments and just
briefly summarize on my written remarks which were supplied
earlier. First, and before going into the specific
recommendations, one of the goals of the report was to provide
and continue to provide legal certainty for over the counter
derivative contracts. The report said that is imperative and we
agree. But we would take it a step further on behalf of our
clients and say that we not only need certainty for OTC
financial contracts. We also need legal certainty for OTC
commodity contracts. And by commodity contracts I am including
everything, whether we are talking about corn or crude oil or
cotton or electricity. We have seen significant volatility in
commodity prices in these contracts, often more so than we have
seen in financial markets in the last several years.
Let me explain why this is important. We believe commercial
parties should be able to enter into over the counter contracts
on commodities without one of the parties later on saying:
``No, I am going to walk away from that contract, because I
entered into an illegal off exchange futures transaction which
was an invalid contract to begin with. We were not allowed to
do it.'' We believe that legal certainty is essential to
prohibit that from happening. We have seen the volatility that
can occur in the electricity markets. We have seen the
volatility that can occur in agricultural markets. Commercial
participants simply need the right to enter into bilateral
transactions off exchange and get the same legal certainty that
exists in financial over the counter transactions.
There has been a lot of innovation that has brought to bear
in financial OTC markets. There has been a significant benefit
to consumers in terms of risk management. We believe all those
same arguments that have been made for financial OTC certainty,
equally apply to commodity OTC certainty.
The Chairman. Could I stop you for a moment, right now? To
what extent are you able to enter into a private contract right
now with some institutional customer who wants to have a tailor
made contract that will pay his or her institution on the basis
of what happens to the price of an agricultural commodity such
as corn? Can you do that now?
Mr. Waye. You can do it, Mr. Chairman, but you run the risk
without the legal certainty of the CFTC or the SEC or some
other agency bringing an enforcement action against you later
on, that, that was really an off exchange futures contract,
even though it was bilaterally negotiated.
The Chairman. How much of that are you doing right now? How
much business are you doing that involves private OTC type
contracts dealing with underlying agricultural commodity?
Mr. Waye. Including both agriculture and energy, and this
is a rapidly expanding area. Electricity OTC contracts, we saw
the problems a couple of years ago, when electricity prices
spiked to record highs during the summer. And then we also saw
a record number of defaults. A few years ago we saw a case in
Brent crude oil that's called the Transinor case, where one of
the parties argued they could walk away from the transaction
because it was an off exchange futures contract. So there is a
need to eliminate the uncertainty, to encourage the innovation
rather than to have this cloud hanging over commodity markets.
The Chairman. It is good you bring up this point, because
we only hear of this legal uncertainty problem in the context
of financial over the counter derivatives. That is an area that
is growing rapidly and most of that is really interest rates
swaps.
Mr. Waye. Yes, absolutely. And the final comment I would
make is, whether we like it or not, people that get involved in
commodity markets, tend to be more litigious than institutions
trading in financial markets. They tend to walk away from
contracts more frequently. The volatility sometimes is much
greater. So I guarantee you that going forward we will continue
to see these kind of actions pop up.
I would like to go to my second point, and that is one
already covered somewhat earlier by the comments you made
yourself on the DTF, the derivatives transaction facility, and
how do we determine what commodity contracts can be traded on a
DTF. But we talked about products with inexhaustible supply,
and Mr. Chairman, you pointed out that with Treasury securities
that is already a present problem, number one. Number two, one
of the few examples of price manipulation did take place with
Treasury securities futures on Treasury bond futures. We
support the staff report that certain markets do need to be
held to higher level transparency and regulation, and we think
that is the case, because they perform an important price
discovery function. So our comment here is not so much to
disagree with the staff report, but just to recommend an
alternative definition that contracts were be excluded from the
DTF be those contracts that there is no real price discovery
function taking place.
I think a lot of financial market participants today would
say the price discovery for Treasury bonds probably does not
take place anymore in the Chicago Board of Trade, but probably
does for corn. So where the market has a true price discovery
function taking place, that market needs to be held to a higher
degree of oversight and regulation and concern because it is in
the public interest. Not because it is in any particular
members' interests or participant here this morning, but it is
in the public interest. We are trying to discover a true price.
Participants in those markets and markets themselves need to be
held to a higher degree of regulation.
Third, you said not to go here, but I have to, because I
made a comment on stock index products. I will not repeat what
was said earlier on Shad-Johnson. But I would say as a global
futures commission merchant that our clients outside the U.S.
do have access to a much broader range of equity based products
that trade on financial futures exchanges than they do in the
U.S.
The Chairman. Do you trade those stock futures?
Mr. Waye. On behalf of clients.
The Chairman. What countries do you do that in? Would you
know off the top of your head?
Mr. Waye. Absolutely. In fact, I will just combine this
with my last point to save time, because in a lot of these
countries we have seen the equities markets and the futures
markets merged into one. In the cases of Singapore, Sydney,
Frankfort and Paris, we have recently seen a merging, a coming
together of the equities exchanges and the futures exchanges
under a common platform, a common clearing house and a common
regulator. So our clients in those markets are clients of our
firm, Cargill Investor Services, are able to trade stock index
products, a wide variety of stock index products or stock index
derivatives that trade on the futures exchange because in those
countries it is all one exchange. It is moving towards one
platform and it is one clearing house.
The Chairman. Do you have American customers who are using
Cargill to trade futures on individual stocks in foreign
countries? Do you have that at this point?
Mr. Waye. Yes, but only if those contracts have been
approved by the SEC. If the contracts have not yet been
approved by the SEC, it would be illegal for us to offer them
to U.S. domiciled clients.
The Chairman. OK.
Mr. Waye. But non-U.S. domiciled clients can have access to
those contracts. I appreciate it is a murky area, but just
coming from a customer side, our non-U.S. clients have access
to a much broader array of stock in equity based futures
contracts than those same customers in the U.S.
Finally, a note on competition. I am glad to see, and the
comment was made earlier in the past panel, about the number of
new exchanges that are being proposed in the U.S. Our only
concern here is that the CFTC be prompt and fair in evaluating
these new exchanges and approving them for operation, if they
deem so appropriate. I note they did this a couple of weeks ago
with a new exchange in Texas which had been under review I
believe for 2- or 3-years. There are six or seven new exchanges
in the pipeline. And we believe that the role of the CFTC is to
encourage competition between exchanges, just as we have
significant competition between FCMs and competition exists in
other areas of the market, and we are pleased to see the CFTC
take steps and acknowledge that these new markets are going to
be developed, just as we have seen new markets expand
significantly both in equities and in fixed income securities.
Mr. Chairman, that pretty much summarizes the comments that
I made in our written submission, and I would be very happy to
answer any further questions or be of any further assistance.
Thank you.
[The prepared statement of Mr. Waye can be found in the
appendix on page 74.]
The Chairman. Thank you very much, Mr. Waye, for your
testimony. And now Mr. Crapple, President of the Managed Funds
Association, we appreciate your being here. If you could tell
us a little bit at the start what the Managed Funds Association
is and does, we would appreciate that.
STATEMENT OF GEORGE E. CRAPPLE, CHAIRMAN, MANAGED FUNDS
ASSOCIATION, NEW YORK, NEW YORK
Mr. Crapple. Certainly. A small correction, I am appearing
as Chairman of the Managed Funds Association. Our President
Jack Gaine overcame great transportation obstacles to get here,
and he is also here. But I have the seat at the table.
MFA is a national trade association representing more than
700 participants in the hedge fund and managed funds industry.
I should say I am also the co-Chairman and co-Chief executive
of Millburn Ridgefield which has managed money in the currency
and futures markets since 1971, and also sponsors funds of
funds and equity hedge funds.
MFA appreciates the opportunity to testify before the
Subcommittee concerning the CFTC's New Regulatory Framework
Report and issues relating to the reauthorization of the CFTC.
Our association commends the CFTC for its commitment to
reinventing the regulatory program in fundamental ways, an
approach designed to attract seemingly intractable regulatory
issues that have been with us for many years, as well as issues
that may be critical in permitting our markets to remain global
leaders in the 21st Century.
Members of the MFA in the aggregate manage the vast
majority of the over $40 billion invested in managed futures
and a significant portion of the nearly $400 billion invested
in hedge funds. Our members are active participants in all
derivative markets, on and off exchanges, foreign and domestic.
Accordingly, a regulatory framework that promotes competition
and innovation which results in liquid, efficient markets is of
enormous significance to us. We believe the CFTC's report and
the previously issued President's Working Group report on over
the counter derivatives identify a number of important issues
deserving priority and attention.
We believe in general that the CFTC's overall purpose and
its suggested approach are highly constructive. The report
significantly advances the debate over the optimal regulatory
structure in the U.S. futures markets and we applaud the
development. I would like to first speak briefly on the new
regulatory framework report.
The highly competitive markets in which MFA's members and
other market participants operate require prompt and creative
responses to new market conditions, new technologies, new
products and new trading and clearing mechanisms. The CFTC is
to be commended for developing approach to exchange regulation
that is designed to expand the ability of U.S. futures
exchanges to meet these challenges through a regulatory
framework that affords the maximum latitude, subject only to
constraints reasonably designed to assure basic customer and
market protections.
As we understand it, the report contemplates a regulatory
approach under which futures exchanges and the over the counter
derivatives trading facilities would operate on an even playing
field, one in which appropriate circumstances would be subject
to minimal regulatory burdens. We support this concept of a new
highly flexible, largely unregulated marketplace. Now, I think
I could echo really some of the comments that Barry Lind made.
We are concerned about the role of our constituents in the new
less or non-regulated marketplaces.
Commodity pool operators and commodity trading advisors and
qualified registered professionals acting for pools, hedge
funds, and individual accounts should be able to access all
futures markets, just as today they have access to swaps, over
the counter derivatives and foreign futures and options,
markets that are not subject to the highest level of
regulation. For CTAs, CPOs and their clients, special
conditions or risks in these newly developed markets should be
addressed as they are generally today in the case of foreign
futures markets by the use of a standardize risk disclosure
statement.
As is the case with foreign futures, this risk disclosure
statement should be simple and distinct, clearly highlighting
the special risks associated with the particular kind of
market, thereby permitting the customer to make an informed
choice whether to assume these risks. The approach would
facilitate the broadest access for CTA advised futures
customers in commodity funds to the greatest possible array of
innovative U.S. derivative markets, resulting in the deepest,
most liquid and hence, efficient derivative market, a goal that
we all share.
This approach is far superior to limiting eligibility to
access a particular market, to defined group of customers, such
as limiting access to only the institutional clients of a CTA.
This would create significant problems. As the CFTC knows from
its recent efforts, the use of this approach to implement a
post trade, order allocation procedure rendered the rule
unworkable. The reporting and record keeping nightmare is
great. In the current case, for example, if the CTA had 50
clients in a program and only 30 of them qualified for access
to the larger more efficient market, the CTA would be forced to
trade the 30 accounts in one market and the other 20 accounts
in another. As a result, most importantly, the CTA's
performance results for the 30 accounts could differ
substantially from those with the 20 accounts. Most likely,
better results would be gotten for the 30 supposedly large
customers. The fragmentation of liquidity would also adversely
affect the efficiency of both markets.
So in summary on this point, MFA strongly suggests that
CTAs, CPOs and all of their clients and investors have access
to all futures and derivative markets. I would next like to
very briefly address the issue of regulatory relief for
commodity pool operators and commodity trading advisors which
is not part of the new regulatory framework report, but is
contemplated to be forthcoming.
The CFTC is operating with the MFA, that they will be
reviewing the regulatory framework for CPOs and CTAs with the
same objectives, enhancing efficiency and competitiveness,
which have guided its review of exchange regulation. The CFTC
staff in cooperation with the MFA is developing draft core
principles for CPOs and CTAs, designed to supplement the
report's recommendations concerning other aspects of
regulation. We strongly support this effort and have so far
assisted and stand ready to assist the CFTC and the MFA in any
way they consider appropriate. There are many inefficiencies to
be remedied, including for example, putting public and private
offerings of pool interests on a level playing field with
public and private offerings of securities and for example,
public offerings of mutual funds. We are under a much more
restrictive offering regime for which there is no apparent
public interest necessity.
Lastly, I would like to mention legal certainty of OTC
derivatives. The CFTC report is not principally designed to
address the issue but the report builds upon and is consistent
with the President's Working Group recommendations for enhanced
legal certainty for OTC derivatives, in particular by
reinforcing and augmenting the Part 35 swaps exemption, and by
providing new exemptions for innovative trading and clearing
structures for OTC derivatives.
MFA strongly supports the objective of enhancing legal
certainty for OTC derivatives including the President's Working
Group recommendations for legislation to exceed OTC financial
derivatives from the CEA, as well as the report's
recommendation for actions by the CFTC to enhance legal
certainty. I would say having listened to Mr. Waye's remarks,
that we would certainly endorse additional legal certainty for
OTC commodity contracts as well.
We believe that in defining the statutory exclusion for OTC
derivatives and other measures to enhance the legal status of
swaps, the existing criteria defined in eligible swaps
participants should not be further restricted. In fact, they
should be expanded to include all clients of CTAs and all
commodity pools. The President's Working Group suggestion that
consideration be given to increasing financial threshold for
natural persons engaging in swaps to $25 million in
discretionary investments, in our view, is not warranted by
experience or public policy. MFA opposes the creation of
additional restrictions upon access to swaps and other
derivatives transactions. In fact, the real limitation on
participation to these markets is finding a swaps or derivative
dealer who has confidence in accepting the business of a
particular customer. And we think this is the real check on
preventing unqualified people from participating in these
markets.
In conclusion, MFA fully supports the efforts of this
Subcommittee and of the CFTC under Chairman Rainer to make U.S.
futures regulation as innovative as the industry overseas. We
look forward to providing our full assistance and cooperation.
Once again, thank you for the opportunity to present MFA's
views on this important topic.
[The prepared statement of Mr. Crapple can be found in the
appendix on page 77.]
The Chairman. Thank you very much, Mr. Crapple. We
appreciate that. Mr. Downey from Interactive Brokers, LLC,
thank you for being here. I would appreciate if you could
describe for the panel a little bit about what your company
does, and then go on to describe your views on the proposed new
regulations.
STATEMENT OF DAVID G. DOWNEY, EXECUTIVE VICE PRESIDENT,
INTERACTIVE BROKERS LLC, CHICAGO, ILLINOIS
Mr. Downey. Mr. Chairman, thank you very much for inviting
me to participate. It is an honor and a privilege.
Interactive Brokers is an organization that provides
electronic access to the world's markets, to a variety of
customers ranging from large broker/dealer and FCM trading
desks down through some of Mr. Crapple's constituents of
professional fund managers to individual investors trading out
of their kitchens via the use of the Internet. Our platform
provides all of these participants with the exact same level of
access into the marketplace at the exact same price levels. So
they all participate on a level playing field.
We use a network that is connected to over 30 exchanges
around the world. We allow our customers to connect to all 30
of them. Retail, that is our small customers who deserve the
highest level of protection, we only allow them into the
electronic marketplaces where they are protected. They are not
allowed into the open outcry markets because of the
inefficiencies that occur.
The Chairman. Is that by your own choice or is that CFTC
regulations?
Mr. Downey. No. I have the technology to bring them into
the open outcry using my own people. But I have come to the
conclusion recently, within the last 4-months, that there is
nothing I can do to control the risk present in these customers
entering the open outcry. And we are going to develop only from
what we believe will eventually succeed. No one has been able
to put forth an argument that the open outcry will ever
overcome the inefficiencies and cost structures associated with
it. They cannot compete on a cheaper, faster basis with
electronic markets.
With that said, Mr. Chairman, I have to join everybody
here. I think this is a tremendous start with what the CFTC has
put out, and it is based on leadership. We are at a moment
where we need absolutely to show, and that includes from
Congress. Very briefly, on the document itself, I have two main
topics. One is I do not believe that any customer should be
denied access to any facility as long as they are intermediated
and protected. I think that if you start splitting them up
where you have large players creating prices that are somehow
reflected in the retail trading arena, the retail should have
access to both markets. I think that can be achieved through
the intermediaries' role.
In the absence of that price transparency, if they are
trading like products on different platforms for different
people, all prices should be known to all market participants,
whether they are allowed to trade there or not, as long as they
have a correlated market elsewhere. They can be influenced by
prices being established.
The second issue besides the pricing is that it was very
clear about the codes of conduct for the RFE, the DTF and the
intermediary. On the first two, the issue of audit trails and
making sure that there are time stamps that are very clearly
spelled out, protecting the customer's access to the markets on
a who knows what when basis, because that is market
manipulation. But there is no such call on the intermediary's
code of conduct, and that is exactly where they need it the
most. There are three pieces to the interaction between
customers and the market.
There is a collection piece, ruled by the member firms.
There is a distribution piece, ruled by the member firms. And
an execution piece, ruled by the exchanges today. The danger of
time stamping the orders and frontrunning and market
manipulation are just as prevalent upstream as they are at the
matching edges. So if I could make that statement, that the
codes of conduct for intermediaries simply include high
resolution audit trails, at least as high as the exchanges
themselves, to make the audit trails meaningful.
With that said, I generally agree with the document. I
believe it is a tremendous start for us, and details need to be
worked out. But the details that need to be worked out are
going to be influenced exactly from the leadership from
Congress on two very important issues. The first is
competition.
Competition is going to be technology based. The exchanges
are rushing towards ownership and they are going to be self-
regulated, and it raises serious questions, are they going to
be partisan in deciding whether a certain technology will or
will not succeed. This is no longer an abstraction. We have
some exchanges on the securities side who have been faced with
issues, should we allow customers to access our markets with
the given technology, and they have taken affirmative steps not
to allow customers access, and to cripple the technology. That
simply has to be protected against.
My concerns with the current framework, with the framework
that is being proposed is that the exchange can stop a piece of
technology being given to a customer and I need to know who do
I plead to.
The Chairman. Can you give some examples of what you have
in mind there?
Mr. Downey. Sure. On the options exchanges, the SEC has
come out and said that the member firms have a duty to provide
best execution; that is, deliver their customer orders to the
highest bid or the lowest offer. The broker/dealers have
provided this technology that allows a customer in a kitchen in
Iowa from observing the prices on all competing exchanges and
pointing and clicking and sending an order to the appropriate
exchange. Last Wednesday the CBOE effectively terminated the
customer's rights to do the arbitrage if there was a market
dislocation between two exchanges or three exchanges. The
customer did not have the right to take advantage of that,
given the available technology and they stopped automatic
execution on that exchange with the blessing of the SEC, a
complete contradiction to Congress' bias toward giving
technology and the SEC's own statement on broker/dealer's best
execution responsibility.
We have had the experience that while the regulators,
acting on the intent of Congress, have pushed technology and
competition. When push comes to shove, the exchanges step up to
the plate and beg for mercy and the regulators simply back
down. The NASD, for instance, Mr. Chairman, had a recent
proposal on order handling. They received 71 industry comment
letters, 59 of them negative in some regard to its new
proposal. The SEC let it stand without comment, no changes.
That has to be a Congressional issue.
We demand the regulators, you are to act in the fall on
technology, innovation and competition, and you have to make it
very clear as to the burden of denying technology which will
foster competition. That is the first part, leadership.
The second issue is on the clearing house. Competition in
the marketplace in the futures, when I hear that people are
going to create exchanges, I think that is a great idea. Where
are they going to clear it? Where are they going to clear this
stuff? If they do not have a facility to clear, that they have
a matching engine means nothing to me as a participant.
In the futures market today there is no national clearing
mechanism. There is no way for an individual with a matching
engine idea to come up and step up and find a place to clear
it. They have to go back. Interesting, Mr. McNulty pointed out
that he intends to make his clearing operation a revenue
stream. That means he is going to use it as a corporate asset,
to keep competitors out and raise the prices. If you really
want competitive markets in the futures, by the way, where is
the competition between products and the futures market? There
is none. Where is it in the securities market? Every exchange.
Options market? Every exchange. Futures market? They are all
based on each other's exchanges. And that is because of
clearing.
Clearing in the futures market was instituted by Congress
in the 1920's as a result of a default of the Chicago Board of
Trade in the 1900's, early 1900's. Market participants were
unable at that time to come to an agreement on clearing and
Congress had to step in. In my mind they had a flaw in it. They
stepped in and said if you want to be a contract market, you
got to have a clearing house. But they did not describe how
open that clearing house had to be. They left it to the markets
to describe it. The Chicago Board of Trade has a separate
entity. The Chicago Mercantile Exchange has a division. But
they are both exclusive to anyone else, and you cannot get in.
When the member firms say we want to compete, they really want
to compete on the clearing house. They want people to allow
them to clear. And only Congress is going to allow that to
happen. CFTC cannot push it. This document is not going to
help.
We need leadership from Congress. We want competition, and
in order to get competition you need clearing. Clearing
structures should be open to all, along the lines of a national
clearing and settlement mechanisms established in the
securities market by the Securities and Exchange Act amendments
of 1975. Without that, we would not have the SEC on the
securities side or the OCC on the options side that allows for
competition like the international securities exchange, the all
electronic options exchange which has driven the options
business to incredible competition, lowering and narrowing of
bids and spreads, benefiting the member, benefiting the
customer base. That is what competition is all about, and it is
about clearing.
Mr. Chairman those two issues, a real vision on how we are
going to let technology thrive and the establishment of a
national clearing mechanism for futures is something that we
need leadership from Congress on. Thank you.
[The prepared statement of Mr. Downey can be found in the
appendix on page 87.]
The Chairman. Thank you very much for that testimony, Mr.
Downey.
Would any of the other panelists wish to comment on Mr.
Downey's proposal for a national clearing house? Mr. Lind?
Mr. Lind. I do not know how you would get that to work. I
can say this, that certainly you could not force the Board of
Trade clearing corp. or the Chicago Mercantile Exchange to take
on the clearing of another exchange. First off, at the
Mercantile Exchange, they have a good to the last drop rule. So
any funds that we have up there are one thing, but if there was
a big default they could just keep coming after us on a
prescribed rotation until all the money was gone. No one is
going to guarantee a little cattle exchange or some major
exchange that may not know what they are doing. So how you can
take that from the level, and certainty you could not force the
Chicago Mercantile Exchange to do that. And how you can take
that on a national realm where you put everybody there, I do
not see how the integrity of that would be able to be set up so
that people would be comfortable. Because if you are going to
have DTFs and other exchanges that are coming about, there
would be a lot of reassurance that would be needed to get
people to be willing to guarantee that or put money into that.
The Chairman. Does anybody else wish to comment? Mr. Waye?
Mr. Waye. It is difficult to perceive, with all the changes
that are going to be coming up, with electronic markets and the
new deregulatory framework, how the clearing house issue is
going to unfold. But I think as a clearing firm, we would be
willing to put our capital at risk, if we are satisfied with
the organization, with the rules and the regulations, and if
that means new clearing houses where there are solid financial
parties and solid rules and regulations. We would be prepared
to put our capital at risk to enable our clients to participate
on new markets. So I cannot guarantee exactly how it is going
to unfold, whether existing clearing houses will start to clear
a broader array of underlying physical products, for example.
Or we may get futures cleared more broadly among a variety of
clearing houses.
The CFTC staff would allow the non-U.S. clearing house,
such as the London clearing house, to establish a facility or
partnership in the U.S. to clear potentially some of the exempt
MTEF trades. And I am sorry staff is not here today, to just
ask the question. I believe that is the case. So I think we
will see more competition for clearing. I think we will see
member firms like ourselves be willing to clear new exchanges,
if we are confident of the financial strength of those
exchanges. So I agree with Mr. Downey, clearing is really a
very, very core critical issue and it is difficult to predict
exactly how it is going to unfold, but I think we will see
significant change coming up in the next year or two.
The Chairman. Mr. Crapple?
Mr. Crapple. I think it would be highly desirable and it is
necessary for effective competition by new exchanges that there
be a clearing mechanism available. I do not really think that a
major, a new exchange is going to have much of a chance getting
started unless it has got the backing of major securities and
futures firms that are clearing members of other exchanges. So
I see it more as a voluntary rather than mandated approach. But
there is no doubt that if it came about through one means or
another, that it would be a great enhancement to competition.
The Chairman. Mr. Downey, I want to ask you a question
about access to exempt multilateral transaction facilities,
exempt MTEFs. Would you support access to an exempt MTEF by
retail customers as long as they are represented by
intermediaries?
Mr. Downey. Yes. I think that the people that you are
discussing would be exempt and are going to be people who are
professionals who are basically trading a lot of individuals'
money. Those individuals are going to have access to it, but
they are trusting some person to actually pull the trigger on
their behalf. I think I would like to say this. The definition
of a sophisticated customer is something that is very difficult
to pin down. I know some very sophisticated customers with
$100,000 in capital and I know some very unsophisticated
customers with 10-million in capital, and I think one would be
allowed to trade and the other one would not. I think that it
really comes down to do you understand the risks involved here?
Do you understand this trade might have some defaulters to it?
And also again, in trading it comes down to one thing in my
mind. That is the price. Does everybody know what the price is?
Does everybody know what the pressure is going to be? And if
you do not allow individuals to trade in these facilities, as
long as they are trading a product that does have a correlation
to a market that is trading downstream, prices have to be
disseminated in a very timely manner and that means no delay.
As soon as they know about the price, they disseminate it so
everybody else can trade on the knowledge that there is a big
transaction that took place and it is going to affect
everybody's pricing.
The Chairman. What do the other panelists think about that
issue, whether there should be access to an exempt MTEF by
retail customers as long as they are represented by
intermediaries?
Mr. Crapple. I will take a stab at that. I think Mr. Lind
would probably go a step farther than I feel the need to go,
because in his case he is an FCM who would be an intermediary,
and in the case of the Managed Funds Association, our clients,
our constituents are the CTAs and CPOs. So in the case of a
customer of a CTA, an individual, regardless of his means, has
signed documentation granting discretionary trading authority
to a registered category under the CFTC. So the individual is
no longer making his own trading decisions. He has delegated
that, and as long as the person that it has been delegated to
has been invented by the CFTC and the MFA, we see no good
argument for foreclosing that ultimate customer from any
category of the new market frameworks.
Now, I think Mr. Lind referred to a concept of FCMs with
$20 million in capital. At least in a case like that, if an FCM
is forwarding orders to any level of exchange and something has
gone wrong, you have got a pocket to go to. The customer is not
without recourse. Anyone with capital could actually be an FCM.
And it is possible for any fly-by-night organization. You would
not, I do not think, want to see a blanket rule that any
customer of any FCM could go to any market necessarily. But I
have great sympathy for the concept of limiting it to FCMs that
achieve the material capital.
The Chairman. Mr. Lind?
Mr. Lind. It comes down to two basic situations. One
situation, the more exotic situation might be as an example,
something that was offered to me a year ago, which I should
have taken. You, as a customer of mine, on an exempt market,
maybe the product that is going to be offered is something like
this. You can get a return of 1-percent or a return of what the
S&P index does over the course of 2-years. So you put up
$100,000 and the worst that you are going to get back is
$102,000 or if the S&P index goes up 20-percent a year, you get
back $140,000. They should be able to deal in that type of
product, and they should be able to deal in that type of
product through me. So that is the more exotic type.
But the basic situation that we have is right now a lot of
transactions, not anywhere near as many percentage-wise as used
to be. The market has grown and volume is still good at the
futures exchanges, but when we get these off exchange products,
if the exchange market, for example, right now is two, three,
an off exchange you get the inside market is now two and a
half, three, but if the liquidity goes off exchange, like I
would suspect a lot of it is going to happen, then the market
might be something more like one, four on the exchange.
So I want my customer to be able to get at least the two,
three, if not the two and a half, three market. I certainly do
not want him to have to pay four or sell at one, because then,
no matter how much you protect him, then he has been hurt by
this. So wherever the market is, that is what I would like to
get for my customer.
The danger that you have in that is if you have some
people, because it does not take much to become an introducing
broker, and my fear is that he will go down to this off
exchange operation down the street with his buddy and instead
of having a market of two, three, he will have a market of even
to 40 or even to 60. And we have seen that in the past. And
that is why I propose the protection, that the firm has got to
be a clearing member, has got to have enough money at risk so
that he is not going to do something wrong. No member of an
exchange that is any kind of substantial member at all is going
to mess around like that. So I think that the protections are
there. And if the protections are there, then I think that we
certainly have to be able to give the best price to the
customer, wherever it exists, whether it exists at the
exchange, or at an exchange or any of the other categories that
have been provided.
The Chairman. Thank you. You do not have anything to add,
Mr. Waye?
Mr. Waye. I would just go back and support Mr. Crapple's
comment, that I believe individual investors who are having
their funds managed by a third party, and that third party is
registered with the CFTC and the MFA, that third party then
should have the ability to transact in the exempt MTEF market
on behalf of its clients, whether those clients are retail or
institutional or commercial. So I would support Mr. Crapple's
comments in that regard.
The Chairman. So the retail customers get into that MTEF
that way.
Mr. Waye. Yes.
The Chairman. Mr. Lind, in your opening statement you
talked a lot about access to markets. You did not use the word,
but I think you were really talking about the bifurcation of
the market between retail and institutional customers and you
were concerned that retail customers could be denied access to
the market with the greatest liquidity. Do others of you share
that concern under this proposed regulatory scheme? Business
could really migrate from the RFEs. Liquidity could migrate
from the RFEs to the less regulated DTFs and exempt MTEFs. If
the retail customers do not have a way of getting in those
markets, they are really going to be locked out of the most
liquid markets. That is a real problem, is it not?
Mr. Lind. That is my problem.
Mr. Crapple. I think that is a good point. I think
inevitably there will be some tendency in that direction. An
analogy that was made by someone used to be if you could trade
the same contracts, certain grain contracts at the Chicago
Board of Trade or if you were a small fry, at the Mid-American
Commodity Exchange and you had to set the positions limits, so
actually the big traders used them all. And they would send
orders to the Mid-American Commodity Exchange, and they have a
bank of people that the changer phones and they would just
immediately lay this off on the big liquid Board of Trade
markets. The problem with that is the toll charge on it. It was
more expensive. I think that we probably would be faced with
something, you would get more customer protection in one sense,
but there would be some cost.
The Chairman. Mr. Downey?
Mr. Downey. Technology today, I think I have demonstrated
it to you in the past, the small retail customers know exactly
what they are getting, as long as they can see the price and
watch the price move and they can see the buy and sell
fluctuations by themselves and they can make an informed
decision. I do not see the growth of the market being dominated
by the institutions. I see the growth of this market being
dominated by individual investors who have taken their own
decisions into their own hands. And to deny them access to the
liquidity of a marketplace simply because they are deemed
unsophisticated, I think that is unfair. If they can be
delivered, using the technology of a member to protect them and
to make sure that they have all requisite information that they
need for protection, they deserve to be able to participate.
The Chairman. The problem here is that, in an attempt to
help protect the retail investor, we could in fact deny them
the best prices and thereby hurt them. Far from protecting
them, we could be hurting them. We have got to be very careful
here.
To summarize, am I correct in saying that you feel that if
the retail customers would have access to the exempt MTEFs
through other intermediaries, but not directly, they would be
protected?
Mr. Downey. I do.
The Chairman. OK. They would still have access to those
most liquid markets, is that correct?
Mr. Downey. You must remember that the only reason why it
is not clearing houses is because of contract market status.
These would not be contract market status, these entities,
these MTEFs, so they would not need a clearing house. Retail
customers should not be exposed to non-clearing house cleared
products. I am trying, again, to lobby you to create a clearing
house.
The Chairman. Right, right. I hear you. I hear you
Mr. Lind. Wait a minute. Mr. Chairman, may I comment on
that?
The Chairman. Yes.
Mr. Lind. The opposite party in this type of transaction, I
am acting as the intermediary for my customer, and maybe the
opposite party is Goldman Sachs. Now, in my proposal, all my
customers' funds have to be segregated to begin with. But the
responsibility of making that trade good on one side is Goldman
Sachs. Now, if Goldman Sachs defaults, my customers' monies are
still protected because it is all segregated funds.
Now, if we do not have an arrangement, where we settle
every day and he defaults to me, then my in my opinion that
obligation is mine. The customer gave me the order. I deal with
Goldman Sachs, Goldman Sachs goes out of business, I have to
make my customer good. I may have his money in segregated
funds, but I may not have the profit that he had on a position,
I have to make that good myself. But the customer will be
totally protected in that regard, whether there is a clearing
house with a DTF or not.
The Chairman. What do you think about the suggestion for
the relaxed standards as to the segregated funds? Does anybody
want to comment any more on that?
Mr. Waye. Mr. Chairman, I think the recommendations by
staff to allow a somewhat greater degree of flexibility in how
segregated funds are invested and managed by the FCM, as Mr.
Lind said, we would support that.
The Chairman. What are you allowed to invest them in now?
Mr. Waye. U.S. Treasury securities.
The Chairman. And that is pretty much it? What would the
proposal be that you can invest them in?
Mr. Waye. I have not seen it exactly. But I have heard CFTC
staff say you might be able to invest them in similar
securities to what a clearing house accepts today. Or I am not
quite sure if their thought is to lower it like double A or
single A or A-1 plus P-1 commercial paper. I am not sure. Just
that they would broaden it beyond treasuries only, which is the
current requirement.
The Chairman. I think they had in mind municipal bonds and
the like. I should not comment on that. I will leave that to
the CFTC.
What do you think about the other suggestions for relaxed
standards as to risk disclosure, registration, financial
requirements and the like? What do you all think of these
recommendations for the intermediaries?
Mr. Downey. I personally do not find them to be a burden at
all. They are deliverable. I know a lot of it is the paper,
they would create paper and deliver it and get signed
signatures. I think the CFTC has already moved forward on
electronic signatures which opens up the door for electronic
delivery. I do not provide any of my customers these risk
disclosure statements in a paper format. They capture them
electronically. They read them. They take a test on them. And
they acknowledge that they have gotten them. I do not find them
to be a burden. Technology can solve that problem, and I
consider it a good policy to understand that our customer
understands the risks involved in the business he is about to
undertake.
Mr. Lind. First, let me say that the risk disclosure
statement for the retail customer today, I am guessing now but
I would have to say it is probably over 20-years old. And times
have changed. The sophistication of people today, even people
who have never traded before, is so much higher than it was
back then, that I think that risk disclosure today, I think
there should be a risk disclosure. I think it should be for
today's times. I do not think that most of my customers read
it. Certainly I do not give them a test. What do you do if
someone fails the test?
Mr. Downey. Let them take it again.
Mr. Lind. Right. They would check off that they have
received it, but I doubt that very many people read it. Now, I
think that a more appropriate message about the risks of
trading could be enclosed in a short enough form that the
people probably would read it. But right now, the whole thing
is pretty burdensome, and it is really out of date, but we can
live with that. And I think it should be there.
Also, going back to the segregated funds, part of the
reason why the relaxation of segregated funds would be, because
our competition overseas has a whole relaxed aspect to that.
They can invest in many other things. Some of the customers
here would like to direct the firm that they are trading with
to take the funds and invest it in something else where they
are going to get a better return rather than on treasuries. I,
myself, for the retail customer believe the funds should stay
segregated but only for the retail customer, and that those
funds should be invested only in treasuries the way they are
today.
The Chairman. Well, thank you very much. I am going to
adjourn this Committee meeting now. I appreciate very much the
substantial contribution all of you have made, through your
prepared remarks and through your testimony today. Rest
assured, I will take this input back to Washington, as we
rewrite the Commodities Exchange Act this year. Let us hope
that we get it done by September, which we have set as an
absolute deadline. Thank you all very much for your help today.
Thank you.
[Whereupon, at 12:30 p.m., the hearing was adjourned.]
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A P P E N D I X
March 20, 2000
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DOCUMENTS SUBMITTED FOR THE RECORD
March 20, 2000
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