[House Hearing, 117 Congress]
[From the U.S. Government Publishing Office]
CHANGING MARKET ROLES: THE FTX
PROPOSAL AND TRENDS IN NEW
CLEARINGHOUSE MODELS
=======================================================================
HEARING
BEFORE THE
COMMITTEE ON AGRICULTURE
HOUSE OF REPRESENTATIVES
ONE HUNDRED SEVENTEENTH CONGRESS
SECOND SESSION
__________
MAY 12, 2022
__________
Serial No. 117-33
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
Printed for the use of the Committee on Agriculture
agriculture.house.gov
___________
U.S. GOVERNMENT PUBLISHING OFFICE
48-754 PDF WASHINGTON : 2022
COMMITTEE ON AGRICULTURE
DAVID SCOTT, Georgia, Chairman
JIM COSTA, California GLENN THOMPSON, Pennsylvania,
JAMES P. McGOVERN, Massachusetts Ranking Minority Member
ALMA S. ADAMS, North Carolina, Vice AUSTIN SCOTT, Georgia
Chair ERIC A. ``RICK'' CRAWFORD,
ABIGAIL DAVIS SPANBERGER, Virginia Arkansas
JAHANA HAYES, Connecticut SCOTT DesJARLAIS, Tennessee
ANTONIO DELGADO, New York VICKY HARTZLER, Missouri
SHONTEL M. BROWN, Ohio DOUG LaMALFA, California
BOBBY L. RUSH, Illinois RODNEY DAVIS, Illinois
CHELLIE PINGREE, Maine RICK W. ALLEN, Georgia
GREGORIO KILILI CAMACHO SABLAN, DAVID ROUZER, North Carolina
Northern Mariana Islands TRENT KELLY, Mississippi
ANN M. KUSTER, New Hampshire DON BACON, Nebraska
CHERI BUSTOS, Illinois DUSTY JOHNSON, South Dakota
SEAN PATRICK MALONEY, New York JAMES R. BAIRD, Indiana
STACEY E. PLASKETT, Virgin Islands CHRIS JACOBS, New York
TOM O'HALLERAN, Arizona TROY BALDERSON, Ohio
SALUD O. CARBAJAL, California MICHAEL CLOUD, Texas
RO KHANNA, California TRACEY MANN, Kansas
AL LAWSON, Jr., Florida RANDY FEENSTRA, Iowa
J. LUIS CORREA, California MARY E. MILLER, Illinois
ANGIE CRAIG, Minnesota BARRY MOORE, Alabama
JOSH HARDER, California KAT CAMMACK, Florida
CYNTHIA AXNE, Iowa MICHELLE FISCHBACH, Minnesota
KIM SCHRIER, Washington JULIA LETLOW, Louisiana
JIMMY PANETTA, California ------
SANFORD D. BISHOP, Jr., Georgia
MARCY KAPTUR, Ohio
______
Anne Simmons, Staff Director
Parish Braden, Minority Staff Director
(ii)
C O N T E N T S
----------
Page
Kuster, Hon. Ann M., a Representative in Congress from New
Hampshire, submitted article................................... 199
Scott, Hon. David, a Representative in Congress from Georgia,
opening statement.............................................. 1
Prepared statement........................................... 3
Submitted material........................................... 85
Submitted comment letter on behalf of, and authored by,
Michael J. Seyfert, President and Chief Executive Officer,
National Grain and Feed Association........................ 198
Thompson, Hon. Glenn, a Representative in Congress from
Pennsylvania, opening statement................................ 3
Witnesseses
Duffy, Hon. Terrence A., Chairman and Chief Executive Officer,
CME Group, Chicago, IL......................................... 5
Prepared statement........................................... 7
Submitted question........................................... 218
Bankman-Fried, Samuel ``Sam'', Co-Founder and Chief Executive
Officer, LedgerX LLC d/b/a FTX US Derivatives, Chicago, IL..... 12
Prepared statement........................................... 13
Lukken, J.D., Hon. Walter L., President and Chief Executive
Officer, Futures Industry Association, Washington, D.C......... 27
Prepared statement........................................... 29
Supplementary material....................................... 202
Edmonds, Christopher S., Chief Development Officer,
Intercontinental Exchange, Inc., Atlanta, GA................... 30
Prepared statement........................................... 31
Supplementary material....................................... 217
Perkins, Capt. Christopher R., (Ret.), U.S. Marines; Managing
Partner and President, CoinFund Management LLC, New York, NY... 34
Prepared statement........................................... 36
CHANGING MARKET ROLES: THE FTX
PROPOSAL AND TRENDS IN NEW
CLEARINGHOUSE MODELS
----------
THURSDAY, MAY 12, 2022
House of Representatives,
Committee on Agriculture,
Washington, D.C.
The Committee met, pursuant to call, at 10:00 a.m., in Room
1300 of the Longworth House Office Building, Hon. David Scott
of Georgia [Chairman of the Committee] presiding.
Members present: Representatives David Scott of Georgia,
Costa, McGovern, Adams, Spanberger, Hayes, Brown, Kuster,
Maloney, Plaskett, O'Halleran, Carbajal, Khanna, Lawson,
Correa, Craig, Harder, Schrier, Thompson, Austin Scott of
Georgia, Crawford, DesJarlais, LaMalfa, Davis, Allen, Rouzer,
Kelly, Bacon, Johnson, Baird, Cloud, Mann, Miller, Cammack, and
Fischbach.
Staff present: Lyron Blum-Evitts, Carlton Bridgeforth,
Emily German, Ashley Smith, Paul Balzano, Caleb Crosswhite,
Jennifer Tiller, John Konya, and Dana Sandman.
OPENING STATEMENT OF HON. DAVID SCOTT, A REPRESENTATIVE IN
CONGRESS FROM GEORGIA
The Chairman. Welcome, everyone. The Committee will now
come to order. And I want to thank all of you for coming to
this important hearing. It is very timely. We see right now
what is happening in the markets with cryptocurrency, which
brings us to the significance and importance of this timely
hearing. So thank you all for coming.
Our hearing is entitled, Changing Market Roles: The FTX
Proposal and Trends in New Clearinghouse Models. After a brief
opening statement, Members will receive testimony from our
witnesses today, and then the hearing will open for questions.
And I will begin with my opening statement.
Ladies and gentlemen, this is important. I feel personally
that this could be a serious threat, particularly to our
derivatives market and our cross-border dealings that we have
been involved with. As we know, we are dealing with an $822
trillion piece of the world's economy. That is what is on the
table here today. And primarily it is to keep our economy, our
financial system as the greatest in the world. That is what is
at stake at this hearing.
So, I look forward and I am sure we will have a robust and
well-informed debate today on the merits and the suitability of
the clearing model that is proposed now by FTX. This is why we
are here. And I have said many times before, and I think my
reputation speaks for it in my 20 years, and that is this: I
have a tremendous respect, love, and admiration for our great
financial system. As Chairman of our House Agriculture
Committee, as well as senior Member of the House Financial
Services Committee, I am particularly well-suited to really
deal with this emerging and worrisome threat. Maybe after today
you can convince me that it is not a threat, but until then, it
seems to be a threat to me, to our clearinghouses and the
derivatives market.
Just as the CFTC has recognized the novelty of FTX's
proposal to trade margin products under a non-intermediated
clearing model and the need for closer public examination, I
have heard a number of concerns about the risk, about the
threats of their proposed model, and I believe that we must
take great caution to preserve and protect our great financial
system, the protections and the international standing it
affords our market participants.
And that is why I have asked you and I have brought some
very distinguished individuals today representing a variety of
interests and perspectives here to ensure that we are giving
this conversation the appropriate amount of attention and that
all the voices on this issue will be heard this day.
Earlier this year, I invited and asked Chairman Behnam of
the CFTC to come and testify before our Committee on the state
of the CFTC, and I was heartened to hear that the Commission
would offer an opportunity for robust public input on this FTX
proposal. Any new and untested proposal that has widespread
implications for the orderly clearing of derivatives trades
must be given due and proper consideration.
Make no mistake, ladies and gentlemen, while the proposed
clearing model by FTX is limited in a select few cryptocurrency
contracts, we must consider the potential of this model to
expand into other derivatives market and be adopted in some
form by other clearinghouses.
Further, I am greatly concerned about the potential of this
proposal to upset international agreements that the CFTC and
this Committee have worked so hard to preserve, which have
deemed our current clearing structure and regulations
equivalent to EU and UK rules, affording U.S. derivatives
clearing organizations the ability to provide clearing services
in their markets.
I want to remind you all that awhile back as I was serving
as Chairman of the Commodity Exchanges, Energy, and Credit
Subcommittee, that I, along with then-Chairman Collin Peterson
and Mike Conaway, who was also Chairman, and my friend Austin
Scott, we led a fight then to preserve the sanctity of our
clearinghouses. There was a threat that the EU wanted to
regulate them. We had to step in and stop that. So this is why
this is very critical as we look at this. Both sides of the
aisle, Democrats and Republicans, we are very concerned about
that.
We have the greatest financial system in the world, as I
said, and we must ensure that the CFTC's regulatory safeguards
governing derivatives markets help us maintain that position in
the future. That is why this hearing is important.
And as Chairman of our House Agriculture Committee, I
believe it is very important for this Committee to ensure that
this remains the case. And I look forward to our hearing today,
and I am really looking forward to hearing our expert panelists
help us as we navigate this challenging issue.
[The prepared statement of Mr. David Scott follows:]
Prepared Statement of Hon. David Scott, a Representative in Congress
from Georgia
Good morning to our witnesses and thank you for joining us today.
The purpose of today's hearing is to examine the FTX proposal currently
before the CFTC for public comment and the potential of such changes to
the traditional clearinghouse model and roles of various market
participants.
I look forward to what I'm sure will be a robust and well-informed
debate today on the merits and suitability of the clearing model
proposed by FTX.
As I have said many times before, I have a tremendous love and
admiration for our great financial system.
And as Chairman of our House Agriculture Committee, as well as a
senior Member of the House Financial Services Committee, I am
particularly interested in new and novel developments involving the
CFTC and our financial system.
Just as the CFTC has recognized the novelty of FTX's proposal to
trade margined products under a non-intermediated clearing model and
the need for closer public examination, I have heard a number of
concerns about the risks of their proposed model and I believe that we
must take great caution to preserve and protect our financial system,
the protections, and the international standing it affords our market
participants. That is why I have brought people representing a variety
of interests and perspectives here together today to ensure that we are
giving this conversation the appropriate amount of attention and that
all of the voices are being heard.
Earlier this year, Chairman Behnam was invited to testify before
this Committee on the state of the CFTC and I was heartened to hear
that the Commission would offer the opportunity for robust public input
on the FTX proposal. Any new and untested proposal that has widespread
implications for the orderly clearing of derivatives trades must be
given due and proper consideration.
Make no mistake--while the proposed clearing model by FTX is
limited to a select few cryptocurrency contracts, we must consider the
potential of this model to expand into other derivatives markets and
adopted in some form by other clearinghouses.
Furthermore, I am gravely concerned about the potential of this
proposal to upset international agreements that the CFTC and this
Committee have worked so hard to preserve which have deemed our current
clearing structure and regulations equivalent to EU and UK rules,
affording U.S. derivatives clearing organizations the ability to
provide clearing services in their markets.
By holding today's hearing, we are giving yet another public
platform to shine a light on these novel market structures and help to
ensure that the potential implications--good or bad--of such proposals
are thoroughly considered before any changes are made.
We have the greatest financial system in the world, and we must
ensure that the CFTC's regulatory safeguards governing derivatives
markets help us maintain that position into the future.
As Chairman of our House Agriculture Committee, I believe it is the
role of this Committee to ensure this remains the case and I look
forward to hearing everyone's perspectives here today.
I will now turn it over to the distinguished Ranking Member, the
gentleman from Pennsylvania, Mr. Thompson, for any opening remarks he
would like to give.
The Chairman. With that, now I will turn to our
distinguished Ranking Member, my friend from Pennsylvania,
Ranking Member Thompson, for his opening statement.
OPENING STATEMENT OF HON. GLENN THOMPSON, A REPRESENTATIVE IN
CONGRESS FROM PENNSYLVANIA
Mr. Thompson. Well, thank you, Mr. Chairman. I want to
acknowledge your efforts to work collaboratively with me on
this hearing. I especially appreciate that today's table is a
bipartisan witness table, and it will be a better hearing
because of our work together, so thank you very much.
In 1974 when the CFTC was first established, electronic
trading was so novel that Congress directed the Commodity
Futures Trading Commission in statute to determine the
feasibility of trading by computer. Today, of course, the idea
of computers would not have taken over markets seems almost
laughable. Our markets exist almost entirely on computers.
There are virtually no open outcry pits left anywhere in the
world, but this transition didn't happen overnight. Certainly,
many people are responsible for the transition to electronic
markets. However, we have to give credit to both CME and ICE
for their pioneering work in the 1990s and the 2000s to bring
the futures market into the digital age.
The benefits of this technology have been enormous. Today,
computers and capital work together to deepen liquidity, narrow
spreads, reduce transaction times, and create new hedging
opportunities. Electronic trading provides greater access and
availability to all market participants. But in the eyes of
some, it also has some drawbacks. Certainly, the men and women
put out of work might have mixed feelings. And to this day a
few market participants continue to believe that electronic
markets are more volatile and less reliable than human-
intermediated markets.
Now, since moving markets to the screen, technology
underpinning our markets has not stood still. Just last year,
CME Group announced it is undertaking the next step in
electronic markets by migrating to the cloud. And like the move
to electronic trading, their proposal could be both beneficial
and disruptive to the markets. Cloud-based infrastructure could
be another revolution in leveling the playing field for market
access, reducing cost for participants while also upending how
existing participants interact with exchanges.
Now, today, we are going to hear about another proposed
market innovation, a recent proposal from FTX to expand their
current non-intermediated clearinghouse to offer margin
products. This proposal has generated excitement, concern,
hope, and confusion. It sounds like Washington actually. You
get all four of those emotions going at once, that is the kind
of world we work and live in sometimes. But we acknowledge
that. And this proposal has generated all of those emotions
across the derivatives and the crypto industries. And as I have
said in the past, I believe this proposal is worthy of balanced
consideration.
Now, I know the Commission is working diligently to
consider it. A few weeks ago Chairman Behnam sat before us in
this very room--thank you for that hearing, that opportunity--
and explained his process. Specifically, he committed to us
that the Commission will consider, as they do every proposal,
the proposal publicly according to the core principles for a
derivatives clearing organization. Chairman Behnam also
committed to a comment period, which closed yesterday, and to
hold a public roundtable, which will take place at the end of
the month.
Now, I don't believe this Committee should duplicate that
work. We have empowered the CFTC, the Commission and the
Commissioners, to ensure stakeholders and the public will have
a seat at the table, and now we must trust the process. Where
the Commission fails to consider the proposal appropriately,
deviates from the law, or unnecessarily limits debate, we
should not hesitate to weigh in. But that has not happened.
For me, the most interesting part of today's testimony will
be a broader conversation about changing market structure and
the ever-evolving impact of technology on markets, sometimes at
a crawl and sometimes in leaps and bounds. Technological
innovation is revolutionizing the world around us.
Now, I hope we can discuss how technology can continue to
empower market participants by reducing costs, improving
access, and protecting our financial markets by increasing
transparency and reducing systemic risk. Now, we have the
largest, most liquid, most dynamic derivatives markets in the
world because the potential for innovation is baked into our
regulatory structure. In the end, it is the market participants
and ultimately the American people who will benefit from the
quality of these markets. Protecting and promoting the health
of our markets is what should drive each of our regulatory
decisions.
And I want to say a warm welcome to all of our witnesses
and I thank all of them for their diligence in preparing for
today. And I look forward to your testimony. And with that, Mr.
Chairman, I yield back.
The Chairman. Thank you, Ranking Member.
The chair would request that our other Members submit their
opening statements for the record so our witnesses may begin
their testimony and to ensure that we have ample time for
everyone to ask questions and our witnesses time to give good
thorough answers.
Now it is my pleasure to introduce our distinguished panel.
Our first witness today is Mr. Terry Duffy. Mr. Duffy is the
Chairman and Chief Executive Officer of the CME Group. Our next
witness today is Mr. Sam Bankman-Fried, who is the Chief
Executive Officer and Founder of the FTX U.S. Derivatives. And
our third witness today is Mr. Walt Lukken, the President and
Chief Executive Officer of the Futures Industry Association.
And our fourth witness today is Mr. Christopher Edmonds, the
Chief Development Officer of the Intercontinental Exchange. And
our fifth and final witness today is Mr. Christopher Perkins,
the President of CoinFund Management, LLC. Welcome to all of
you. Thank you for coming.
Now we will get right to the testimonies. Mr. Duffy, you
will be first. Please begin when you are ready.
STATEMENT OF HON. TERRENCE A. DUFFY, CHAIRMAN AND CHIEF
EXECUTIVE OFFICER, CME GROUP, CHICAGO, IL
Mr. Duffy. Well, thank you, Mr. Chairman and Ranking Member
Thompson, for holding this hearing today. It is a great
pleasure to be back in this body. I haven't been here in
several years, and it is wonderful to be in person with
everyone again. And I hope you and your families are all
healthy and doing well.
As the Chairman said, my name is Terry Duffy. I am the
Chairman and Chief Executive Officer of CME Group, the world's
leading derivatives marketplace, offering futures and options,
contracts across every investable asset class. Risk management
and innovation are hallmarks of CME Group and have always been
fundamental to centrally cleared derivatives markets in the
United States.
Under false claims of innovation that are little more than
cost-cutting measures, FTX is proposing a risk-management light
clearing regime that would inject significant systemic risk
into the U.S. financial system. The FTX model would come at the
expense of proven risk mitigation practices, market integrity,
and ultimately financial stability. In fact, the FTX proposal
would significantly increase market risk by potentially
removing up to $170 billion of loss-absorbing capital from the
cleared derivatives market, eliminating standard credit, due
diligence practices, and perhaps most importantly destroying
risk management incentives by eliminating stakeholder capital
requirements and mutualized risk.
The FTX proposal to instantaneously auto-liquidate any
customer who is under margin at any given moment in time would
jeopardize both market integrity and financial stability. Auto-
liquidation can exacerbate volatility and create dramatic price
moves during times of turbulence. In an already stressed
market, these automated liquidations could lead to a repeated
pattern of price declines followed by additional liquidations.
This has the potential to build losses on top of losses and
destabilize markets for all participants.
Furthermore, FTX's market maker and backstop liquidity
provider plans imported from its offshore practices in low
regulatory jurisdictions raises serious questions about the
potential conflicts of interest embedded in the FTX model.
Finally, the FTX proposal eliminates critical customer
protections. Under their model, market participants will lose
important customer segregation protections and could be exposed
to increased collateral investment losses. In non-defaulting
customer positions--let me repeat that--non-defaulting customer
positions could be terminated or collateral liquidated at the
discretion of first line of defense against losses for any
reason under any market condition. By contrast, U.S.
clearinghouses like CME Clearing have billions of dollars of
resources available in the default waterfall that must be used
to cover losses prior to any possibility of a position tear-up.
The FTX proposal is not innovation. It is an evasion of
best practices and prudent risk management. And while the
Commodity Exchange Act may promote innovation, it does not
promote innovation for the sake of innovation alone. In order
to approve the FTX proposal, the CFTC must determine that it
complies with the core principles and is in the public's best
interest. We do not see how the Commission could credibly make
this finding or legally limit its approval even on a test basis
to crypto only. If the Commission makes its finding for crypto
markets, they will not be able to keep FTX or others from
expanding into other asset classes. To suggest otherwise would
put all market participants at an extreme disadvantage. Market
structure changes would affect the entire industry, not just
FTX. And all platforms must be able to participate under the
same rules at the same time. Accordingly, the CFTC should
either reject the FTX proposal or commence a formal rulemaking
to allow a broader public discussion of appropriate risk
management standards.
In conclusion, let me make one final point. As you know
better than anyone, Chairman Scott, you and this Committee have
spent enormous time--you mentioned it in your opening remarks--
and energy defending the CFTC's standards and regulatory
oversight as equal to or better than any other jurisdiction in
the world. If in fact the CFTC decides to approve a rushed and
ill-conceived proposal, we believe the hard-won cross-border
equivalence agreement that you referred to will come under
question.
Just a few weeks ago, sir, a senior European Central Bank
official warned, and I quote, ``The crypto market is now larger
than the subprime mortgage market was when it triggered the
global financial crisis.'' To put this into context, the
subprime mortgage market was at $1.8 trillion in 2008. Today,
the cryptocurrency value is north of $1.8 trillion and growing.
The stakes are extremely high.
Exempting FTX from well-established U.S. clearing rules
could undermine confidence in our regulatory regime. Therefore,
I applaud you, Mr. Chairman and this Committee, for holding
this hearing today. Your oversight of the derivatives
marketplace structure is critical to ensuring sound public
policy. Mr. Chairman, Ranking Member, and Members of the
Committee, I thank you. I look forward to answering your
questions.
[The prepared statement of Mr. Duffy follows:]
Prepared Statement of Hon. Terrence A. Duffy, Chairman and Chief
Executive Officer, CME Group, Chicago, IL
Chairman Scott, Ranking Member Thompson, and Members of the
Committee, I am Terry Duffy, Chairman and CEO of CME Group Inc.
(``CME''), the world's leading and most diverse derivatives
marketplace. We offer the widest range of global benchmark products
across all major asset classes and provide clearing services for our
customers around the globe through our clearinghouse, CME Clearing.
Thank you for the opportunity to testify today regarding proposed
revisions to the derivatives clearing organization (DCO) registration
order of LedgerX, LLC d.b.a. FTX US Derivatives (``FTX'') to offer
central clearing of margined products directly to retail customers (the
``FTX Request'' or ``FTX Proposal''). This proposal, if approved by the
Commodity Futures Trading Commission (``CFTC''), would represent a
dramatic change to the market structure of the derivatives industry and
would set a precedent with wide-ranging negative implications for the
safety and soundness of U.S. financial markets.
FTX's Proposal is glaringly deficient and poses significant risk to
market stability and market participants. We believe the implications
of this application far exceed the parameters of the typical matters
that lay before the CFTC, and we appreciate your interest in
considering the numerous pitfalls inherent in the FTX Request. It is
imperative that the committee of jurisdiction provides oversight and
consideration of this matter. It is of fundamental importance to the
effectiveness of the global commodity markets, and I hope that you will
give the FTX Request the fullest measure of scrutiny because, as
proposed, it promises to usher in a derivatives clearing model rife
with risk management deficiencies, market integrity issues, cross
border implications, and customer protection issues.
I. Risk Management Deficiencies in the FTX Request
FTX's proposal does not instill the necessary risk management
incentives for its participants--it is risk management ``light.'' Under
this regime, FTX will not impose any capital requirements on its
participants and does not intend to maintain mutualizable participant
resources (i.e., loss-sharing among non-defaulting participants) to
address participant defaults.
More broadly, FTX's proposal is insufficient, as its direct model
eliminates potentially billions of dollars of loss-absorbing resources
that are currently a feature of the derivative markets.
A. Elimination of Capital Requirements
FTX's proposed risk management regime has no capital requirements
for participants. Today, DCOs maintain strict minimum financial
requirements and are backstopped by the FCMs' own capital. FCMs, in the
aggregate, maintain over $173 billion in adjusted net capital and other
resources.\1\ There is no indication that FTX would hold capital or
residual interest comparable to FCM levels today.
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\1\ CFTC, Financial Data for FCMs (Feb. 2022) (noting, figure
includes adjusted net capital and residual interest for the customer
segregated account), available at https://www.cftc.gov/sites/default/
files/2022-04/01-%20FCM%20Webpage%20Update%20-%20February%202022.pdf.
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B. Lack of Counterparty Due Diligence
Counterparty due diligence is a linchpin of the modern financial
system and a key part of current DCOs' risk management practices, used
to confirm that clearing members are well-placed to meet the
obligations that arise from their risk-taking. FTX would not be the
first party, novice or otherwise, to suggest that financial modeling
and algorithm design could eliminate the need for best practices in
risk management; however, the eventual fate of Long-term Capital
Management \2\ and bespoke financially engineered products, such as
mortgage-backed securities and collateralized debt obligations, suggest
that it would be folly to unwind core risk management practices based
on the assurance that ``this time it's different.''
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\2\ The near-failure of Long-Term Capital Management (``LTCM'') and
the hedge fund it operated (``LTCM Fund'') in the summer and early fall
of 1998 vividly highlighted the need for using sound risk management
practices in the financial markets. LTCM engaged in highly leveraged
trading for the LTCM Fund based on the general strategy that liquidity,
credit and volatility spreads would narrow, in a range of financial
instruments including derivatives. LTCM relied on risk management
models that underestimated the risk that the spreads would widen as
they did. By the end of August 1998, the capital held by the LTCM Fund
had declined over 50% from the start of the year. The President's
Working Group on Financial Markets issued a report in April 1999
identifying the risk management and other failures at LTCM and its
counterparties and provided a number of recommendations in the report
to enhance risk management practices, including counterparty due
diligence. See ``Hedge Funds, Leverage, and the Lessons of Long-Term
Capital Management Report of The President's Working Group on Financial
Markets'' (April 1999).
---------------------------------------------------------------------------
C. Insufficient Financial Resources for Managing Participant Defaults
Unsurprisingly given the proposed lack of capital requirements for
participants, under FTX's proposal, FTX will have insufficient
financial resources to address default events (i.e., tail risk).
Additionally, by proposing to self-fund its guaranty fund, FTX
eliminates a core incentive for participants to effectively manage
their risks. In contrast, current DCOs require clearing members to fund
a mutualized pool of resources with knowledge of the risks they assume
(in addition to a DCO's own contribution known as, ``skin-in-the-
game''), so that as risk-taking increases, resources increase. This
provides incentives to clearing members to manage their own and their
customers' risk in business-as-usual and stressed markets, while also
incentivizing them to actively participate in the default management
process. Removing the potential for loss mutualization, as FTX
proposes, eliminates these risk management incentives.
D. Failure to Use Appropriate Stress Scenarios for Sizing Financial
Resources
FTX also does not appear to fully understand the concept of
``extreme but plausible market conditions'' (emphasis added) \3\ for
the purposes of guaranty fund sizing. Surprisingly, FTX appears to
suggest that increasing the assumed number of participants defaulting
meets this requirement,\4\ and no other information is provided in the
FTX Request on its stress testing methodology. DCOs today size their
financial resources using both historical data and hypothetical
scenarios that are designed to capture tail risk.\5\ Failing to do this
ignores tail risk and leads to inadequate resources to cover default
losses, particularly during stressed markets.
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\3\ CFTC Regulation 39.11(a)(1).
\4\ FTX Request, Letter from Julie L. Schoening, Ph.D., Chief Risk
Officer, FTX US Derivatives, to Clark Hutchinson, Dir., Div. of
Clearing & Risk, at pg. 3 (Feb. 8, 2022) (Financial Resource
Requirements under Core Principle B and CFTC Regulation 39.11(a)(1) in
the Absence of Clearing Futures Commission Merchants (``FCMs''))
(noting, ``[i]ncreasing the number of the largest participants that are
assumed to default at the same time makes a scenario more extreme but
naturally decreases the plausibility of such a scenario.''), available
at https://www.cftc.gov/media/7006/
ledgerx_dba_ftx_ltr_fin_resource_req2-8-22/download.
\5\ CFTC Regulation 39.11(c)(1) (noting, CFTC Regulation 39.36(a)
establishes additional requirements with respect to a systemically
important and electing subpart C DCO's stress testing methodology
(e.g., scenarios considered)).
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II. Market Integrity Jeopardized
The FTX Request, as designed, would have a significant negative
impact on market integrity. FTX assumes that auto-liquidation is a
panacea that eliminates the need for other risk management practices.
FTX is arguing in favor of eliminating best practices in risk
management represented by risk-based capital and other participation
requirements, counterparty credit due diligence, and participant funded
mutualizable resources for managing defaults, among others. This
collectively eliminates core incentives for participants to effectively
manage their risk-taking.
Contrary to FTX's assertions, auto-liquidation is not a new concept
and has not been broadly implemented due to the panoply of problems it
creates, particularly in stressed markets. Auto-liquidation may, at
first glance, appear to be novel but it has been evaluated and
generally dismissed as a market-wide risk management tool for three
primary reasons: (1) it risks creating a vicious pro-cyclical cycle of
cascading liquidations; (2) it incentivizes market abuse and bad
behavior, including but not limited to, market participants triggering
and trading against liquidation orders and market participants
anticipating and front-running the liquidation orders, exacerbating
market volatility and increasing liquidation cost; and (3) at least in
the case of the FTX implementation, it closes out participant positions
without the ability to cure the collateral shortfall.
Moreover, FTX appears to realize that its proposed auto-liquidation
tool and use of backstop liquidity providers may not always be
successful. However, rather than proposing additional resources or risk
management incentives to address an unsuccessful liquidation, FTX's
proposed solution is to tear up positions in a manner similar to what
was recently observed in the nickel derivatives market in the UK.
A. Cascading Liquidations
FTX's proposed use of an auto-liquidation algorithm across its
entire customer-base could cause widespread market disfunction and
price distortions. Often referred to as a ``contagion effect'' in mass
liquidations, the market impact associated with the liquidation of one
account can cause the liquidation of other accounts, thus leading to a
dysfunctional cycle of cascading account liquidations. Auto-liquidation
has historically shown a propensity to exacerbate price moves during
volatile markets, leading to cascading liquidations and further market
destabilization.\6\
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\6\ See CME Group, Notice of Disciplinary Action, COMEX-15-0303-BC
(Sept. 2020) (sanctioning firm that utilized functionality designed to
automatically liquidate under-margined customer accounts that caused
extreme price movements, liquidity and trade volume aberrations and
velocity logic events on multiple occasions), available at https://
www.cmegroup.com/notices/disciplinary/2020/09/COMEX-15-0303-BC-
INTERACTIVE-BROKERS-LLC.html. See also CME Group, Notice of
Disciplinary Action CBOT-15-0158-BC (Mar. 2017) (sanctioning firm that
utilized an auto-liquidation algorithm to liquidate under-margined
client accounts causing significant market disruptions on several
dates), available at https://www.cmegroup.com/notices/disciplinary/
2017/03/CBOT-15-0158-BC-SAXO-BANK-AS.html.
---------------------------------------------------------------------------
B. Market Abuse
FTX's proposed use of an auto-liquidation algorithm across its
entire customer-base also sets the table for significant abusive
practices. FTX's seemingly predictable auto-liquidation algorithm
(i.e., X-percent of account liquidated in Y-second intervals) paves the
way for predatory order anticipation strategies to front-run or trade
ahead of the liquidation, which would have the effect of removing
market liquidity and thus impairing the ability of the auto-liquidation
algorithm to offset positions without significant price concession. It
is also conceivable that sophisticated market participants could earn
significant profits triggering and trading against liquidations,
particularly during times of low liquidity.
C. Broken Hedges
FTX has expressed its ambition to apply its model to other asset
classes. Auto-liquidations could also have knock-on effects on the real
economy, including exacerbation of price increases already being
observed due to inflationary pressures, if it were utilized in core
commodity markets such as agricultural, energy, and metals, as well as
other markets. Commodity producers and purchasers often use derivatives
markets to hedge their business risks over short-term and long-term
time horizons. This has been reflected by the hedge accounting rules
which, under certain conditions, allow these participants to benefit
from preferential accounting treatment due to the reduced business risk
associated with their well-hedged exposures.
FTX propagates a model where participants can be liquidated without
notice,\7\ in the middle of the night, and on weekends and holidays,
during illiquid market conditions and at discounted prices.
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\7\ See proposed FTX Rules 7.1.C.5 and 7.2.D.2.
---------------------------------------------------------------------------
Auto-liquidation would inject uncertainty in the application of
hedge accounting programs at firms because the risk of sudden broken
hedges. Such a break could occur during a market event, or in the case
of FTX even without significant market moves, leading to realized and
unrealized gains impacting firms' accounting statements at a time when
balance sheet stability is more important than ever.
D. Partial Tear-Ups as a Front-Line Risk Management Tool
Under FTX's proposal, innocent, non-defaulting participants may be
subject to liquidation if FTX employs the partial tear-up of positions
as a front-line risk management tool to manage a default. FTX has the
discretion to implement partial tear-up prior to any attempt at
liquidation (auto-liquidation or otherwise) or the use of FTX's
guaranty fund.\8\ Thus, even a participant who deposited significant
amounts of collateral in excess of their margin requirement to avoid
auto-liquidation may still be subject to having their positions torn-up
through no fault of their own.
---------------------------------------------------------------------------
\8\ See FTX Rulebook at proposed FTX Rule 14.3.
---------------------------------------------------------------------------
In other words, FTX has the power to implement a tear-up-similar to
recent events in the nickel derivatives markets--in business-as-usual
market conditions prior to the implementation of any risk management
tools or utilization of any loss-absorbing resources, including those
of FTX. This also inherently creates a conflict of interest for FTX, as
it could elect to use partial tear-ups in order to avoid losses to its
entirely self-funded guaranty fund.
E. Conflicts of Interest Need to be Disclosed and Explained
FTX heralds its use of backstop liquidity providers as a prudent
liquidity risk management tool that can be utilized where auto-
liquidation fails. FTX does not identify these potential backstop
liquidity providers. We can only speculate on who they are and their
relationship to FTX. It is worth noting that Alameda Research, which
has common ownership with FTX and was originally founded to exploit
cross-border crypto arbitrage opportunities, plays a significant role
in managing liquidations and providing liquidity in offshore and cash
crypto markets. It is important for market stakeholders and the CFTC to
investigate these unknowns further in light of the clear conflicts of
interest of such a structure.
III. Cross-Border Implications of the FTX Request
Permitting the FTX Request to move forward in its current form
could undermine the CFTC's position as a leader in derivatives
regulation. The CFTC has long-been at the forefront of promoting best
practices in risk management, including through its role in global
standard-setting organizations \9\ and the adoption of risk management
innovations that have been exported across the globe. The CFTC's
potential abdication of this leadership role in the supervision and
regulation of U.S. DCOs will have real world consequences for U.S. and
global derivatives markets. The CFTC's leadership has helped to ensure
that U.S. DCOs can effectively offer their risk management services to
participants on a global basis.
---------------------------------------------------------------------------
\9\ The CFTC is a member of IOSCO.
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IV. Customer Protection Issues in the FTX Request
FTX's proposal eliminates customer protections for all of FTX's
participants in margined and fully collateralized products. FTX's
proposal discards these carefully crafted customer protections
developed by the CFTC over decades without consideration of the
rationale underpinning their design.\10\ Most notably, the FTX proposal
would eliminate regulatory standards designed to protect customer
funds. An FCM is subject to stringent customer funds segregation
requirements under the CEA and CFTC regulations with respect to holding
funds it receives from public customers to guarantee, secure or margin
their cleared futures and other derivatives transactions. The
predominantly retail market participants that FTX plans to solicit to
engage in leveraged futures trading as direct clearing members are the
very type of market participants the segregation requirements are
intended to protect, and they have a very different profile from
institutional market participants that decide for business and other
reasons to self-clear their leveraged trades as direct clearing
members. However, because retail participants would self-clear their
leveraged transactions directly on FTX, the CEA's customer funds
segregation regime would not apply. If the segregation requirements do
not apply, FTX's retail clearing members will lose the following
protections, among others:
---------------------------------------------------------------------------
\10\ Under FTX's proposal, fully collateralized participants (who
lose these customer protections) would be inordinately penalized due to
the legislative mandate requiring them to share losses on a pro rata
basis with margined participants.
FTX would not be prohibited from using a futures clearing
member's funds for any purpose other than to guarantee, margin
---------------------------------------------------------------------------
or secure such person's transactions.
FTX would not have to hold funds of futures clearing members
as customer funds subject to the statutory trust created by CEA
Section 4d(b). The custodians that FTX uses likewise would not
hold those funds subject to statutory trust.
FTX would not have to open accounts with custodians to hold
futures clearing members' funds under account names identifying
the accounts as holding property belonging to its customers,
nor would FTX have to obtain acknowledgement letters from such
custodians as would be required under CFTC Regulation 1.20.
FTX would not have to use depositories that meet the
requirements of CFTC Regulation 1.49 to hold clearing members'
funds.
FTX would not be required to bear sole responsibility for
any loss in its investment of clearing members' funds, as it
would under CFTC Regulation 1.29 if they were protected
segregated funds of an FCM's customers.
Under FTX's proposal, the failure of FTX to provide these
protections would not be disclosed to the customers; in fact, new
entrants to the futures markets would have no knowledge that these
protections exist and that these protections would normally be provided
when trading on a futures exchange through the intermediation of FCMs.
V. The FTX Request is Contrary to and Inconsistent with the Commodity
Exchange Act
The FTX Request blurs the existing distinctions between an FCM, a
DCO, and a DCM and the clear set of rules and principles applicable to
each registrant. If approved by the Commission, FTX will be allowed to
engage in otherwise-regulated FCM activities without the same oversight
and supervision that applies to FCMs. Not only is this counter to the
foundational elements of the CEA, but FTX's proposal, if approved, will
create a regulatory gap which will, in fact, lower regulatory standards
and protections provided to retail participants.
A. The FTX Proposal Does Not Represent Responsible Innovation Serving
the Public Interest
CEA Section 3(b) does not promote innovation in financial markets
for the sake of innovation alone; it promotes responsible innovation
that serves the public interests described in Section 3(a), namely,
innovation that would foster fair, liquid and financially secure
markets that businesses rely upon for risk management and price
discovery. FTX's Proposal, if allowed and implemented, will harm market
integrity, erode customer protections, and inject risk and financial
instability into the markets.
Moreover, FTX's purported innovations are neither innovative nor
responsible. What, precisely, is innovative or responsible about
shifting FCM activities into its DCM and DCO entity to circumvent FCM
registration and regulation? This seems more evasive than innovative.
B. The FTX Proposal Would Degrade Existing Regulatory Standards
The CEA's core principles governing a DCO under the CEA--and those
of a DCM as well--are no substitute for the myriad of requirements that
apply to FCMs under the CEA framework. While DCOs and DCMs are held to
rigorous, comprehensive standards, these standards are designed to work
in conjunction with the panoply of requirements applicable to FCMs. The
CEA framework does not contemplate that a DCO or DCM would combine
solicitation of customers and their funds to open accounts for
leveraged trading with the market operations or clearing functions that
they perform.\11\
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\11\ Putting aside the fully-collateralized disintermediated DCMs
that the Commission has allowed, DCMs--those that provide for market
access through the intermediation of FCMs--promote the contracts they
list for trading generally to prospective market participants. They do
not engage one-on-one with prospective customers to solicit them to
open trading accounts, assist them with the customer on-boarding
process, conduct ``know-your-customers'' reviews, or otherwise have
ongoing day-to-day engagement with customers. Those functions are
performed by the FCMs and are material components of the important
checks and balances that FCMs provide.
---------------------------------------------------------------------------
In addition, FTX's proposal would result in limiting the recourse
available to retail customers if FTX were to engage in fraudulent or
abusive business conduct practices with its customers or mishandle
customers' funds. The National Futures Association's (``NFA'')
arbitration and mediation would be unavailable for resolving customer
disputes because FTX would not be an FCM member of NFA, nor could
customers file a complaint against FTX using NFA's customer complaint
process, for the same reason.
Conclusion
Although the CEA does feature innovation as a statutory goal, the
Act does not promote innovation for the sake of innovation alone. This
means any purported ``innovation'' which is found to increase risk
unacceptably or fails to protect customers, would be in contravention
of the purpose of the law.
The FTX Request does not meet this test. FTX proposes to implement
a ``risk management light'' clearing regime. In fact, the purported
``innovations'' of FTX's proposal are best understood as simple cost-
cutting measures. And these cost cutting measures would come at the
expense of risk management best practices, market integrity, customer
safety, and ultimately, financial stability. It should not be allowed
to go forward as proposed. The CFTC should either reject the FTX
proposal or commence a formal rulemaking to allow a broader public
discussion of appropriate risk management standards.
Thank you. I look forward to answering your questions.
The Chairman. Thank you. Mr. Bankman-Fried, please begin
when you are ready.
STATEMENT OF SAMUEL ``SAM'' BANKMAN-FRIED, CO-
FOUNDER AND CHIEF EXECUTIVE OFFICER, LedgerX LLC
d/b/a FTX US DERIVATIVES, CHICAGO, IL
Mr. Bankman-Fried. Chairman Scott, Ranking Member Thompson,
Members of the Committee, thank you so much for having me here
today. A bit about myself, I went to MIT, majored in physics. I
worked on Wall Street at Jane Street Capital with the goal of
donating what I made. And I got involved in the digital asset
ecosystem in 2017. In 2019, I founded FTX, a global
cryptocurrency derivatives exchange. In 2020, we launched our
U.S. arm, FTX US. And in 2021, we acquired LedgerX, now FTX US
Derivatives, a CFTC-licensed clearinghouse and marketplace.
Last year, we submitted an amendment to our clearing order,
which would allow us to operate as almost every other
clearinghouse does, with margin. We have spent tens of
thousands of hours talking with the Commission about this
proposal and thousands of pages of documents. We really, really
deeply respect the thorough process that the CFTC has
undergone, the amount of time that they have spent digging into
the details of our proposal, challenging it where appropriate
and the seriousness with which they are treating this proposal.
We respect the CFTC and their process and whatever conclusions
they ultimately come to.
I will note that while our proposal does combine things
together in a way that I think might bring powerful innovation
to this space, each of the elements already exists in CFTC-
licensed derivatives exchanges, including ICE NGX, LedgerX, and
others.
I believe that the amendment that we put forward would help
promote healthy markets. I think it that would promote fair and
equitable access to platforms. In particular traditional
exchanges charge for market data such that only the largest
traders are able to get full knowledge of the markets that they
are supposed to be trading on. With FTX, all of our market data
is 100 percent free, transparent, and public. All users,
regulators, and other observers have full access to our market
data.
Traditional exchanges have separate models for the largest
traders and for other users such that only the largest traders
have direct access with lower latency fees and more options. We
would have equitable access to our platform where all users can
choose the method of access that they most prefer and have
access to the most powerful tools.
We also have strong customer protections under our model.
It is a safe and conservative risk model which would have
helped to alleviate some of the instances that we have seen
with recent futures exchanges like the LME nickel fiasco
earlier this year by having the collateral pre-funded at the
clearinghouse rather than relying on credit, and having a real-
time risk engine.
We also have enhanced customer protections. We have all of
the customer protections that exist on traditional features
exchanges and on FCMs because we understand deeply that we have
a responsibility to ensure that if there is direct access to
the platform, that users are still afforded the same level of
protection. On top of that, we have further customer
protections, suitability, and transparency than what you find
on most other platforms.
Finally, we believe that this would bring competition and
innovation. It would bring liquidity to the U.S. marketplace
and options to U.S. consumers. It would bring competition in
the futures markets where almost all of the volume is traded by
just two exchanges. And it would bring competitiveness to the
United States with respect to the rest of the world. Today, 95
percent of digital asset volume trades overseas.
And that brings me to some of the broader context here.
Digital asset marketplaces need Federal oversight. They need
that oversight to protect consumers, to protect against
systemic risk, to bring liquidity back onshore, to ensure U.S.
competitiveness globally. This is good for the U.S. economy,
for Americans, for wealth creation, and good for our consumers.
The CFTC is an appropriate regulator to provide this for
digital asset futures contracts. They have been doing so on CME
and other platforms for a number of years, a very thorough
regulator who understands the space very deeply.
Thank you to the Committee for having me today, and thank
you for all of the work that you have put in to providing
oversight and guidance on the this ecosystem. And I look
forward to your questions.
[The prepared statement of Mr. Bankman-Fried follows:]
Prepared Statement of Samuel ``Sam'' Bankman-Fried, Co-Founder and
Chief Executive Officer, LedgerX LLC d/b/a FTX US Derivatives, Chicago,
IL
Introduction
Chairman Scott, Ranking Member Thompson, Members of the Committee,
and distinguished guests, thank you for inviting me to testify before
this Committee today. It is an honor and a privilege to be before you
to share information and insights into our license application before
the U.S. Commodity Futures Trading Commission (CFTC), as well as some
of the key topics stemming from that effort. Along with my colleagues
and teammates at FTX, I am pleased to provide you with as much
information as you need in order to ensure a fully informed and robust
conversation around whether and how this Committee could address some
of these key topics.
Background on FTX and FTX US Derivatives
The FTX group of companies (FTX Group or FTX) was established by
three Americans, Samuel Bankman-Fried, Gary Wang and Nishad Singh, with
international operations commencing in May 2019 and the U.S. exchange
starting in 2020. The business was established in order to build a
digital-asset trading platform and exchange with a better user
experience, customer protection, equitable access, and innovative
products, and to provide a trading platform robust enough for
professional trading firms and intuitive enough for first-time users.
In the U.S., the company operates a federally regulated spot exchange
that is registered with the Department of Treasury (via FinCEN, as a
money services business) and also holds a series of state money
transmission licenses. Our U.S. derivatives business is licensed by the
CFTC as an exchange and clearinghouse, the subject of our application
discussed today. FTX US also holds a FINRA broker-dealer license. FTX's
international exchange, which is not available to U.S. users, holds a
series of marketplace licenses and registrations in many non-U.S.
jurisdictions including Japan and the European Union.
The core founding team had unique experience to develop an exchange
given their experiences in scaling large engineering systems at premier
technology companies, combined with trading experience on Wall Street.
This brought to the effort an understanding of how to build the best
platform from scratch, as well as what that platform should look like,
unencumbered by legacy technology or market structure. FTX has aimed to
combine the best practices of the traditional financial system with the
best from the digital-asset ecosystem.
Early International Success. The international FTX.com exchange has
been successful since its launch. This year around $15 billion of
assets are traded daily on the platform, which now represents
approximately 10% of global volume for crypto trading. The FTX team has
grown to over 200 globally, the majority of whom are responsible for
compliance and customer support. The FTX Group's primary international
headquarters and base of operations is in the Bahamas, where the
company is registered as a digital-asset business under The Bahamas'
Digital Assets and Registered Exchanges Act, 2020 (DARE).
FTX % global volume, 15d
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
In addition to offering competitive products, the FTX platforms
have built a reputation as being highly performant and reliable
exchanges. Even during bouts of high volatility in the overall digital-
asset markets, the FTX.com exchange has experienced negligible downtime
and technological performance issues when compared to its main
competitors. We believe the dual-track focus on customers and
reliability, plus compliance and regulation, are key reasons why FTX
has also experienced the fastest relative volume growth of all
exchanges since January 2020.
The core product consists of the FTX.com website that provides
access to a market place for digital assets and tokens, and derivatives
on those assets. Platform users also can access the market through a
mobile device with an FTX app. The core product also consists of a
vertically integrated, singular technology stack that supports a
matching engine for orders, an application programming interface or
API, a custody service and wallet for users, and a settlement, clearing
and risk-engine system. In a typical transaction, the only players
involved are the buyers, sellers, and the exchange/clearinghouse.
The FTX Group has operations in and licenses from dozens of
jurisdictions around the world, including here in the U.S., Europe, and
Japan. At the time of this writing the FTX platforms have millions of
registered users, and the FTX US platform has around one million users.
For FTX.com, roughly 45 percent of users and customers come from Asia,
25 percent from the European Union (EU), with the remainder coming from
other regions (but not the U.S. or sanctioned countries, which are
blocked). In comparison to the international exchange, nearly all users
of FTX.us are from the U.S.
Commitment to a Diverse Workforce. We are proud of our workforce at
FTX and believe that one of our key strengths is a culture of mutual
respect and cooperation. This type of culture is borne from the
diversity of our team, which necessitates a spirit of empathy,
understanding and humility. These traits in our workforce are good for
business and are much of the reason we have been successful at
understanding our customers and their needs, and executing on products
that meet their needs. FTX has employees from all over the world with
diverse ethnic backgrounds, and 60 percent of women in our workforce
are in senior management positions. The majority of our global
leadership comes from diverse backgrounds.
Commitment to Giving Back. FTX is committed to improving the lives
not just of our customers through superior products, but also the lives
of those in the broader global community. Toward this end, FTX created
the FTX Foundation, founded with the goal of donating to the world's
most effective charities. At minimum, one percent of net fees from FTX
transactions are donated to the foundation; additionally, FTX's
founders have pledged to donate the majority of what they make. Mr.
Bankman-[F]ried has personally committed to donating 99% of his wealth.
In 2022 alone, FTX, its affiliates, and its employees so far have
donated over $100 million to alleviate global poverty, provide
ventilators to countries ravaged by [COVID], provide financial services
to the un- and under-banked, and combat climate change by ensuring FTX
is carbon-neutral, and help the world achieve a brighter future.
FTX has launched additional philanthropic initiatives including the
FTX Future Fund which invests in ambitious projects aiming to improve
humanity's long-term prospects. FTX Community's philanthropic efforts
are focused on global poverty, animal welfare, and community outreach.
In 2021, FTX Community organized the FTX Charity Hackathon * and
awarded $1 million to a local student group with the best idea to
improve mental and physical health.
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* https://ftxcharityhackathon.com/.
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Commitment to Carbon Neutrality. FTX Climate is a comprehensive
initiative to make FTX carbon-neutral, support important environmental
projects, and fund transformational research on the most impactful
solutions to climate change. FTX plans to spend at least $1 million
annually through FTX Climate. FTX has endeavored to take ownership of
our portion of the environmental costs of mining associated with public
blockchains and has purchased carbon offsets to neutralize those costs,
in addition to funding research. Those interested in learning more
about these initiatives can find more information at https://www.ftx-
climate.com.
Banking the Un- and Under-Banked. FTX is dedicated to harnessing
the power of crypto to tangibly improve lives. We are working with
nonprofit organizations, cities and counties to make the financial
system more inclusive. According to Federal Reserve estimates, 70
million Americans are either unbanked or underbanked. They lack a safe
place to store money and pay exorbitant fees to cash checks. Millions
more are banked but face high fees when their balance falls below a
minimum. Members of these communities often do not have insured
checking accounts, for a variety of reasons, including credit
histories. The legacy bank settlement system makes it hard to see
realtime balances, and leads to overdrafts, which leads to higher fees.
Our bank the unbanked program offers those cut out of the financial
system a free bank account and debit card linked to a crypto wallet.
There are no fees, and no minimum balances. Transferring funds is
virtually free and instantaneous and can be accessed on a phone. They
can use it to receive money, make payments and build savings. There are
no fees and no minimum balance. Transferring funds through the crypto
wallet is virtually free and instantaneous. We began our program in
South Florida in partnership with OIC of South Florida and Broward
County Government, and have recently announced a new million dollar
program with the City of Chicago, and look forward to expanding to many
other cities and communities across the country.
Humanitarian Aid in Ukraine. Ukraine is deploying digital assets to
defend against Russia's invasion and support the population. In
collaboration with the Government of Ukraine, FTX is converting
millions of dollars in wartime crypto donations to fiat for the
National Bank of Ukraine. This marks the first-ever instance of a
cryptocurrency exchange directly cooperating with a public financial
entity to provide a conduit for crypto donations. Facilitated by FTX,
the Ukrainian Government has purchased crucial defense and humanitarian
equipment including medicine, ballistic plates for bulletproof vests,
walkie-talkies, lunches for soldiers, thermal imagers and helmets.
Ukraine's Deputy Minister of Digital Transformation has noted, ``each
and every helmet and vest bought via crypto donations is currently
saving Ukrainian soldiers' lives.'' Additionally, when the war broke
out in Ukraine, FTX gave $25 to every Ukrainian user of our platform.
U.S. Operations and FTX US Derivatives. FTX services U.S. customers
through the FTX US businesses, which includes the spot exchange, FTX US
Derivatives (https://derivs.ftx.us/), the NFT marketplace, and a soon-
to-go-live FINRA broker dealer (FTX Capital Markets). FTX US is housed
under a separate corporate entity from FTX international and is
headquartered in Chicago, IL. It has a similar governance and capital
structure to the overall corporate family, and also has its own web
site, FTX.us, and mobile app. As with FTX.com, the core product is an
exchange for both a spot market for digital assets as well as a market
for derivatives on digital assets. Like other crypto-platforms in the
U.S., the spot market is primarily regulated through state money-
transmitter laws. FTX.us and FTX US Derivatives (FUSD) are being
integrated into one user-experience platform and web site, but for now
these two categories are separated in the United States, with spot
market trading on FTX.us and derivatives trading offered through FUSD.
FUSD was formed through the acquisition and re-branding of LedgerX
and is being integrated with the overall FTX US platform. The product
offers futures and options contracts on digital assets (or commodities)
to both U.S. and non-U.S. persons. FUSD operates with three primary
licenses from the CFTC: a Designated Contract Market (DCM) license, a
Swap Execution Facility (SEF) license, and a Derivatives Clearing
Organization (DCO) license. Prior to its acquisition, this business was
the first crypto-native platform issued a DCO license by the CFTC in
2017, which was a milestone for the agency and the digital-asset
industry. That license was later amended in 2019 to permit the clearing
of futures contracts on all commodity classes.
FTX US Derivatives ``Equitable'' Market Structure. On the FUSD
platform, users can trade a Bitcoin Mini Option or Ethereum Deci
Option, a Next-Day Bitcoin Mini Swap or Next-Day Ethereum Deci Swap,
and a Bitcoin Mini Future. For now, all of these contracts are fully
collateralized. FUSD operates its trading platform with the option of
direct access to the market and clearinghouse for users, which allows
those who access the platform in this manner to become direct members
of the FUSD clearing house. In practice, this allows any individual or
institutional investor to onboard the FUSD platform by visiting the
FUSD web site and completing the on-boarding process, or by connecting
to the platform through the FUSD API. Importantly, FUSD is also willing
for intermediaries to connect and provide their own customers access to
FUSD products for trading, which is contemplated both by FUSD's
existing clearing order, by FUSD's active rulebook, and confirmed
publicly by the company's leadership at FIA's conference in Boca Raton,
FL this year. By providing both options to investors for accessing FTX
products--direct access or intermediated access--FTX maximizes choice
for the investor and likes to think of this market structure as a more
equitable market structure. For direct-access users, FTX also provides
all of the applicable suitability controls and KYC processes that are
often done by intermediaries, ensuring that the standard safeguards are
in place whichever way customers access the platform.
While this market structure is not unusual among global derivatives
exchanges (it is the norm for digital-asset exchanges that list
derivatives products), it is not the common market structure for the
U.S. derivatives market. Nonetheless, the FUSD market structure is
familiar to the CFTC and permitted under the CFTC's regulations, as
evidenced by the fact that FUSD has been operating and supervised by
the CFTC since 2017; in addition, ICE NGX operates a CFTC-licensed,
direct-member model that offers margined products (see https://
www.theice.com/ngx); ErisX (https://www.erisx.com/); Nadex (https://
www.nadex.com/).\1\
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\1\ https://www.cftc.gov/PressRoom/PressReleases/6833-14.
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The FTX Application Before the CFTC. When the FUSD DCO was
originally approved by the CFTC, the order granting the license limited
the products that the DCO could clear to fully collateralized
derivatives. In December 2022, FUSD submitted an application to amend
its DCO license (FTX Application) to allow FUSD to clear margined
futures contracts.\2\ The submission was made after many months of
informal discussions with the CFTC staff, and after voluminous
materials were created in support of the application and made part of
the submission. Those discussions led to various adjustments and edits
to the materials during the process.
---------------------------------------------------------------------------
\2\ FUSD currently only offers futures, options, and swaps on
digital asset commodities.
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On March 10, 2022, the CFTC released a request for comment on the
FTX Application and posed a number of questions to the public for
consideration. The period for comment originally was 30 days but the
CFTC extended it for another 30 days, which ended May 11, 2022.\3\ The
CFTC May 11, 2022 also has noticed a staff roundtable for May 25, 2022,
where the agency will oversee a discussion on issues related to
intermediation in the U.S. derivatives market place.\4\ To be sure, the
CFTC has responded to and addressed the FTX Application in a very
deliberate and transparent manner, allowing considerable opportunity
for the public and the industry to comment on this narrow licensing
matter. Under the CFTC's regulations, the process for applying for a
DCO license is not required to be the subject of public comment and
normally is not subjected to the same level of public scrutiny. This is
in addition to a large amount of time that the staff has spent
evaluating the FTX Application.
---------------------------------------------------------------------------
\3\ https://www.cftc.gov/PressRoom/PressReleases/8499-22.
\4\ https://www.cftc.gov/PressRoom/PressReleases/8499-22.
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Discussion
In this discussion I will address the following key points related
to the FTX Application: (1) the sound and conservative approach to
risk-management taken by the FUSD platform; (2) how FTX promotes
equitable access while ensuring adequate customer protections to users
of the FUSD platform; (3) how the innovations of the FTX Application
address many pain points experienced by the U.S. derivatives market
place; and (4) the importance of promoting responsible innovation and
competition in the U.S. derivatives market place. While discussing
these points this testimony references relevant CFTC regulations as
needed, as well as international considerations related to equivalency
determinations made by other jurisdictions.
1. The FTX Risk-Management System is Tested, Safe and Conservative
The FTX Application before the CFTC proposes a risk-management
system that is safer and more conservative than what is normally seen
in the U.S. derivatives markets for a number of reasons. The proposed
risk-management system, moreover, is consistent with CFTC regulations,
including those related to DCO risk management. The Commodity Exchange
Act (CEA), which authorized the CFTC and its regulatory authorities, is
purposefully principles-based and flexible in allowing each DCO to
implement a particular risk-management program for the market that it
clears, so long as the core requirements of the CEA are met.\5\
Pursuant to Congressional intent, the CFTC's regulations give
discretion to the DCO in the exact design of the risk-management
system, and give the CFTC the authority to determine whether that
design is consistent with the CEA.\6\ With this legal basis in mind,
FTX has designed a system that has several key features that reflect a
more conservative approach to risk management.
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\5\ Derivatives Clearing Organization General Provisions and Core
Principles (``DCO Final Rule''), 76 Fed. Reg. 69334, 69335 (Nov. 8,
2011).
\6\ Id. at 69365-76.
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Real-Time Risk Assessment. First, the FTX risk-management system
assesses risk on a nearly real-time basis, assessing customers' trading
positions and account balances every few seconds to determine whether a
customer has adequate resources or collateral in their account. This
risk-exposure time period is substantially shorter than what is
typically seen on other derivatives exchanges in traditional finance,
ensuring on a more frequent basis that adequate collateral is on hand,
rather than waiting longer for risk in the portfolio to potentially
increase. This contrasts with most traditional markets, where risk
typically is monitored on a less frequent basis.
Prefunded Collateral Deposits Instead of Credit Extensions. Second,
the system also requires that customers transfer the required
collateral to support their trading to the FTX platform before they can
begin trading. The amount of collateral required is based on a proven
risk methodology that would cover at least 99 percent of the one-day
portfolio returns using appropriate weightings for base VaR and stress
VaR. To account for stress scenarios for a particular asset, the model
looks at both historical as well as hypothetical scenarios to
appropriately calibrate necessary resources. Notwithstanding the
shorter risk-exposure time period the FTX system relies on, for its
CFTC risk model FTX relies on a time period of 24 hours to calculate
collateral requirements based on regulatory requirements, building in
an additional buffer to the original 99% margin calculation. On
traditional derivatives exchanges collateral is instead generally based
on credit, exposing all market participants if that credit decision
turns out to be unwarranted.
Market-Responsive Liquidations Rather Than Risk Buildup. Third, the
risk system has a real-time liquidation feature to prevent a build up
of risk in a customer portfolio. If a customer begins to suffer trading
losses and their collateral balance declines toward minimum margin
requirements, an automatic liquidation process uses rate-limited,
marketable limit orders to reduce risk as the customer account value
falls below the maintenance margin level. As a result, customers are
incentivized to manage their account collateral and proactively add
collateral or reduce risk positions prior to partial auto-liquidation.
Users of the platform receive ample and repeated notice that a
liquidation of a position could ensue_the FUSD platform provides a
series of warnings that a customer account is reaching levels that
could trigger the risk system's liquidation feature.
Notably, unlike traditional platforms, the FTX risk system does not
extend calls for additional margin or extend credit to the customer
hoping that such a call can be met--the system is based on a
presumption that FTX will not have recourse against any customer for
credit losses. On traditional exchanges it can take days to begin
attempting to liquidate a large position, by which time it can be
substantially more underwater than it was initially. This also means
that FTX's risk system is non-recourse, and so customers cannot lose
more than they proactively deposited to the clearinghouse prior to
trading, unlike traditional platforms that may attempt to seize a
customer's other assets.
Auto liquidations on the platform are not expected to be the norm
or common as some have feared, particularly because of the conservative
initial-margin methodology FUSD has used. With initial margin required
by FUSD based on a 24 hour period of risk, but with the period of risk
assessed measured in seconds, the amount of initial margin collected by
FUSD will be substantially higher than the risk model actually
requires. This means that the risk of auto liquidations of positions
goes down, minimizing the number of instances this feature is deployed.
Indeed, on the FTX international platform, the notional value of
liquidated positions is well less than one percent of all notional
activity on the platform historically. Intermediated users also will
have opportunities to avoid auto liquidation through their FCM's
extension of credit, if such a product is offered.
Observers have asked whether the auto-liquidation feature could
promote ``pro-cyclicality'' in a market, exacerbating or accelerating
declines in asset prices. The risk of pro-cyclicality comes from the
interplay between margin calls and market moves. In particular, if
markets start moving down[up], that could cause selling[buying] margin
calls, which could move markets further down[up], creating a cycle. The
core parameters that control this are:
1. Market liquidity
2. Margin call concentration
3. Original market move
If (1) is much greater than (2), the risk of strongly pro-
cyclicality is low. If (2) is comparable to (1), there is larger risk.
In order for there to be a large risk of a pro-cyclic event, you also
have to have a large enough initial market move to trigger the cascade.
Over the past few years, the risk of pro-cyclic behavior has
dropped substantially on the FTX international platform. Market
liquidity has increased substantially, from roughly $10 billion of
daily digital asset volume in 2019, to $150 billion today. Here is
some information from the two largest moves in cryptocurrency markets:
----------------------------------------------------------------------------------------------------------------
Insurance
Day BTC move ETH move FTX volume FTX OI Liquidations fund
----------------------------------------------------------------------------------------------------------------
2020-03-12 ^39% ^44% 4,441,696,624 228,317,363 44,946,399 ^410,638
2021-05-19 ^14% ^26% 53,068,090,693 3,718,475,962 1,679,839,594 ^4,686,029
----------------------------------------------------------------------------------------------------------------
Both March 12, 2020, and May 19, 2021, represented elevated risk
days for pro-cyclical behavior, with market moves of roughly 40% and
20%, respectively. The scale of the marketplace grew substantially over
that year, with volume and open interest climbing by more than 10x, and
liquidation volume growing by more than 30x. Notwithstanding the higher
number of liquidations, the growth in the liquidity of cryptocurrency
markets helped to buffer the moves, creating less total price movement
on the day.
In any case, FTX has addressed risks related to pro-cyclicality in
a comprehensive manner. First, the FUSD risk model follows various CFTC
regulatory requirements related to the margin model that are designed
to address pro-cyclicality. Second, the FTX trading platform sets
slowly moving price bands for certain contracts, where the exchange
will not accept trades or orders that are set outside the minimum and
the maximum of the price range for that particular contract. These
price bands have the effect of mitigating the impact of erroneous
orders, momentary illiquidity, or large concentrated buying or selling
of contracts that could momentarily exhaust the orderbook. They also
act as a temporary circuit breaker, preventing markets from being able
to quickly decline or increase more than a certain amount while
creating time for algorithms to be inspected and liquidity to refresh.
Additionally, FUSD limits the rate at which it closes customer
positions to be within a small fraction of global volume. While this
will not entirely eliminate the price impact of liquidations, it will
ensure that the liquidations are much slower than the rate at which
liquidity can be transported to the orderbook by sophisticated market
participants, mitigating the risk of inefficient short-term price
impact. Together these market and risk controls work to stem pro-
cyclical trends in the FTX order book, including trends influenced by
the auto-liquidation feature of the FTX risk engine. With appropriate
calibration of each of these controls, the FTX risk-management system
promotes risk-reducing platform operations that also limit systemic
risks throughout the market ecosystem.
It is important to note that the absence of the auto-liquidation
feature would have a pro-cyclical impact on markets but that would
manifest in a different manner. Without auto-liquidation, there would
be a call for additional collateral from a customer whose position
suffered enough losses to require it. During a period of market stress
and declining asset prices, market participants operating under this
model would be under pressure to find liquid resources to make a margin
call at a time when liquidity becomes more scarce. There are trade-offs
to any risk-management system and in times of market stress, pro-
cyclicality always will be a risk to address and manage; FTX believes
its risk system does so most effectively and appropriately.
One way to view the decisions made by the risk engine is through
the lense of a particular account. If a particular user's collateral is
decreasing and nearing empty, the combination of real-time assessment
and collateral prefunded directly at the clearinghouse allows FTX's
risk model to ascertain exactly what the account's risk level is. This
means that the risk engine can delay liquidating until the account is
nearly out of collateral, while still successfully closing down the
account's position in time to avoid a default. In a traditional, slower
model, the risk engine would have had to choose between margin calling
the account much sooner--building in days of delivery time--or risking
the account defaulting and risk spreading to the system, as happened
recently on another commodity exchange.
Backstop Liquidity Providers to Address Defaulting Positions.
Fourth, the FTX risk-management system relies on backstop liquidity
providers (BLPs) to take on the portfolio of a participant in default.
To wit, if a customer's account value continues to decline further to a
determined margin threshold, then the system declares a default and the
risk position is moved automatically to the contractually bound BLPs.
Firms volunteer to be BLPs--no one is forced to--but when a firm does
become a BLP, they are automatically passed liquidating positions in
real time and are unable to reject it, legally bound to provide
liquidity when it is most important.
Over-Capitalized and Conservative Guaranty Fund to Absorb Default
Losses. Finally, after BLPs assume and manage the risk positions of
participants in default, and if there remain accounts with negative
value, the FTX guaranty fund will absorb those remaining negative
values. The sizing of the guaranty fund has been undertaken very
conservatively, based on a multiple of a conservative and reasonable
estimate of ten percent of total outstanding initial margin posted on
the FUSD platform, which resulted in a calculation of $250 million cash
now deposited unencumbered in a bank account held at Bank of America.
Historically, on FTX.com less than one percent of this amount has been
drawn from the FTX.com guaranty fund.
Nonetheless, FTX is committed to growing the guaranty fund's
minimum size as activity on the platform grows: Instead of fixing the
fund's size to sustain the failure of the largest clearing FCMs
(``Cover-1'' or ``Cover-2''), we have instead voluntarily committed to
cover 10% of total outstanding initial margin, up to a ``Cover-3''
standard if required. This is substantially more conservative than is
required by regulation. (I have included as an exhibit to this
testimony a fuller explanation of how FTX sized the guaranty fund for
the FTX Application.\7\)
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\7\ See also https://www.ftxpolicy.com/ftx-guaranty-fund.
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Some observers have assumed that if the FUSD risk model relies only
on its own capital (and not guaranty-fund contributions by member
FCMs), and the guaranty fund is sized based on the CFTC's ``Cover-1''
standard with only non-institutional participants, then the guaranty
fund must be too small to sufficiently absorb losses. Instead, FTX has
gone above and beyond the regulatory requirements, and well above what
has been necessary or required based on our experience over the past
years of operation internationally.
All other things remaining equal, this type of system is a more
conservative approach to managing risk. So long as the collateral
required by the system's risk model is adequate, and so long as the
platform deploying the risk system is otherwise operated in a resilient
manner, this type of system will better prevent massive losses by a
customer that could have implications for the broader market by
requiring collateral to be posted to the clearinghouse, and by acting
promptly in the case of large market moves. And perhaps most
importantly, the FUSD risk-management system also aligns with the
CFTC's regulations.
2. FTX US Derivatives Promotes Equitable Access While Ensuring Customer
Protections
FTX is focused on compliance, transparency, education, and
assessing users' knowledge and understanding of our products to create
responsible equitable access. FTX believes that all users (provided
they pass our KYC/AML program and are not otherwise barred by law or
past improper conduct) should have full access to FTX, so long as they
are sufficiently informed and can demonstrate that they understand what
they are trading; we also believe that it is our duty to ensure that
those safeguards are in place. This approach is fully aligned with the
Congressional mandate to provide for fair and open access to CFTC
markets in a manner that is consistent with prudent risk management.\8\
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\8\ See CEA section 5b(c)(2)(C), 7 U.S.C. 7a-1(c)(2)(C); see also
CEA section 5(d)(2), 7 U.S.C. 7(d)(2).
---------------------------------------------------------------------------
Hallmarks of Equitable Access. FTX's real-time monitoring of
participant positions enables it to determine, at all times, whether a
participant's account has sufficient cash and collateral to meet its
margin obligations to the DCO. Because FTX monitors participant
accounts 24/7 and addresses risk in real time, there is no need to
establish minimum capital requirements for each participant, as is the
common approach to U.S. investors for credit and risk purposes (FTX
does collect financial information from all users during the on-
boarding process). Instead, FTX's risk-management framework enables it
to ensure at all times that each participant has sufficient financial
resources to meet its current obligations arising from participation in
the DCO. Any ``means'' testing that constrains access to FUSD therefore
stems from available resources that the user has posted as collateral
on the platform, not otherwise on personal wealth.
Notwithstanding the above, the vast majority of FTX users on all of
its platforms are highly sophisticated traders. On the FTX
international platform, for example, more than 90 percent of the
trading volume comes from users trading more than $100,000 in volume
per day. FTX anticipates that the user base for FUSD would be similar
if the FTX Application is approved.
Another hallmark of equitable access is free and open access to all
market data on FTX platforms including FUSD. Users, regulators, and
other market participants can access all public market data via the FTX
website, mobile app, or API in real time. Additionally, there are no
platform-access or connection fees--all users large and small have the
same options for connecting to the matching engine and clearing house.
Users have access to their entire account, balance, funding, and
trading history displayed via website, mobile app, and API. All fees
charged are displayed transparently in a user's market data.
Customer Protections--Protection of Customer Funds. In the case of
a FUSD user who also is a customer of an FCM, the full panoply of FCM
requirements would apply, including those that relate to the
safekeeping of customer assets. Similarly, a direct-access user of FUSD
also enjoys comparable protections under the relevant rules applicable
to all DCOs. These rules include those related to commingling of DCO
and clearing member customer positions, as well as rules on money,
securities, or property received to margin, guarantee, or secure such
positions.\9\ Pursuant to its current CFTC clearing order and rulebook,
FUSD separately accounts for and segregates from FTX proprietary funds
all participant funds used to purchase, margin, guarantee, secure, or
settle positions. Finally, restrictions on investing customer
collateral apply equally to the FUSD DCO.\10\
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\9\ CFTC Regulation 39.15.
\10\ CFTC Regulation 1.25.
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Customer Protections--Robust Systems Safeguards. The FUSD platform,
like all DCMs and DCOs, is subject to the CFTC's system-safeguards
regulations,\11\ which require a program designed to identify and
minimize operational risk and protections from cyber-related threats.
FTX has implemented best-in-class controls relating to information
security, including controls related to: (1) access to systems and
data; (2) user and device identification and authentication; (3)
vulnerability management; penetration testing; (4) business continuity
and disaster recovery processes; and (5) security incident response and
management, among others.
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\11\ CFTC Regulation 38.1050-51 and Regulation 39.18.
---------------------------------------------------------------------------
Customer Protections--Related to Trading. In its capacity as a DCM,
the FUSD platform provides the same types of customer protections and
transparency related to trading on the platform when a user accesses
the platform directly as the user would experience through an FCM. In
the absence of an intermediary standing between the FUSD platform and
the user, FTX would provide the following types of protections or
reports normally provided by an FCM:
Disclosures related to the risks of trading; \12\
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\12\ FUSD is subject to exchange trading related public disclosure
requirements as set forth in DCM Core Principle 7, and CFTC regulations
38.1400 and 38.1401, which are comparable to the duties of an FCM.
Order and transaction recordkeeping obligations; \13\
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\13\ FUSD is subject to exchange trading related recordkeeping
requirements as set forth in DCM Core Principle 18, and CFTC
regulations 38.950 and 38.951.
Minimum trading standards; \14\
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\14\ FUSD is subject to exchange trading related requirements to
protect its markets and market participants as set forth in DCM Core
Principle 12, and CFTC regulations 38.650 and 38.651.
Trading authorization requirements; \15\
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\15\ CFTC Regulation 166.2.
Requirements to produce monthly statements and
confirmations; \16\
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\16\ FTX provides IRS Form 1099s to customers, trade history is
available to each customer.
Conflict of interest and trading standards.\17\
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\17\ FUS is subject to exchange-trading, conflicts-of-interest
requirements as set forth in DCM Core Principle 16, and CFTC
regulations 38.850 and 38.851.
Again, FUSD has been operating under CFTC supervision for years and
providing these protections as required, and would continue to do so if
the FTX Application is approved. Over years of operation, FUSD has
demonstrated how its market structure and customer-protection regime
can provide the same or superior level of protections even for those
users who access the platform directly.
3. The FTX Application Addresses Long-Standing Industry Pain Points
FTX is eager to help contribute ideas and solutions to some of the
challenges the global derivatives industry has faced, and we believe
that approval of the FTX Application could promote this in some
measure. There is a trend toward more derivatives trading taking place
on exchanges or otherwise being cleared by clearinghouses, meeting a
policy goal reflected in the Dodd-Frank Act and similar policy efforts
globally.\18\ But this trend has witnessed the coincident rise in
regulatory-related costs for intermediaries (including regulatory-
capital requirements), and the low interest-rate environment over
recent years since the 2008 financial crisis (although the interest-
rate environment is changing).
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\18\ https://www.greenwich.com/fixed-income/derivatives-market-
structure-2022-identifying-opportunities-growth.
---------------------------------------------------------------------------
These factors have led to some market concentration in the
derivatives market, which could increase systemic risk, and limit
access to markets and products in a way that ultimately could hamper
risk-management efforts (for which derivatives markets are formed). For
example, there were 176 FCMs registered with the Commodity CFTC in
early 2008, while today there are only 61, with only 51 holding client
margin for futures, and 18 for cleared swaps.\19\ Meanwhile, the amount
of margin held by U.S. FCMs is at all-time historical highs, meaning
risk is increasingly concentrated in fewer intermediaries, which in
turn leads to higher capital requirements for these firms.\20\ (In
Section 4 of this testimony below, I discuss market concentration in
exchange trading among the small number of U.S. derivatives exchanges.)
Additionally, efficient movement of collateral between market
participants can be encumbered by legacy technology systems used by
those participants.
---------------------------------------------------------------------------
\19\ https://www.cftc.gov/MarketReports/financialfcmdata/index.htm.
\20\ https://batonsystems.com/the-broken-fcm-model-could-
distributed-ledger-technology-be-its-saviour/.
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Approving the FTX Application could help address concerns related
to market concentration, consequent systemic risk, rising costs, and
collateral movements, albeit in measured ways. First, the FTX
Application envisions the ``equitable access'' market structure earlier
described that would allow investors to access the FUSD market directly
if they choose, or through an intermediary. Importantly, this market
structure not only promotes market access but also relieves cost
pressures on those intermediary FCMs that choose to connect to the
platform. This is so because the FUSD risk model does not require
guaranty-fund contributions from the FCM, thus reducing the FCM's
costs--including regulatory costs--related to connecting and offering
the FUSD products to its customers.
Second, the FTX real-time risk model promotes more efficient risk
management that requires relatively less margin from investors compared
to other models. This is due to the shortened period of risk that the
risk system measures and relies on for collecting adequate margin from
investors. Broader adoption of this type of model could eventually lead
to less margin costs for a broader segment of the market, freeing up
precious capital for other investments and uses.\21\ Reducing margin
held by an increasingly smaller number of intermediaries also would
lower systemic risk in the markets overall.
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\21\ The amount of margin posted to intermediaries and
clearinghouses for derivatives markets has increased in recent years.
See https://www.greenwich.com/fixed-income/derivatives-market-
structure-2022-identifying-opportunities-growth.
---------------------------------------------------------------------------
Third, FTX is a digital-asset-native exchange and clearinghouse
that has helped pioneer new technologies for more efficient payment and
collateral transfers. Any reliable and resilient payment system that
reduces the settlement times of payments and transfers reduces risk. If
the FTX Application is approved and FTX can bring those innovations
responsibly and through approval of the CFTC, the approval could help
reduce settlement risk not only on the FUSD platform, but encourage the
same on others. Broader adoption of payment technologies that reduce
settlement times and risk also would benefit intermediaries in the
ecosystem, whose regulatory costs would be reduced by such
implementations.\22\
---------------------------------------------------------------------------
\22\ See https://batonsystems.com/the-broken-fcm-model-could-
distributed-ledger-technology-be-its-saviour/.
---------------------------------------------------------------------------
Approval of FTX Application Would Ensure Continued International
Cooperation. Continued international cooperation among jurisdictions
that host healthy derivatives markets also is important to risk
reduction and other market efficiencies that benefit the public. It has
been suggested that approval of the FTX Application might have an
impact on international recognition of the CFTC's regulatory regime for
purposes of equivalency determinations, on the basis that the FUSD DCO
would not comply with the international Principles for Financial Market
Infrastructures, or PFMIs.
In 2012, the Committee on Payment and Settlement Systems of the
Bank for International Settlements and the Technical Committee of the
International Organization of Securities Commissions published the
CPSS-IOSCO Principles for Financial Market Infrastructures (PFMIs). The
PFMIs set out twenty-four principles to be followed to manage market
risk in financial market infrastructure. The PFMIs were issued in the
wake of the financial crisis in 2008 and reflect international
standards that regulatory bodies in individual countries are
recommended to implement. In 2013, the CFTC promulgated rules
implementing the PFMIs that apply to a certain subset of CFTC-
registered DCOs that meet additional requirements under Subpart C of
the CFTC's Part 39 regulations. Jurisdictions around the world,
including the European Union, have made equivalence determinations
based on their assessment of the CFTC's Subpart C of Part 39
regulations.\23\ FUSD would not be able to receive recognition under
another country's equivalence determination for the CFTC until it
satisfies the Subpart C requirements.
---------------------------------------------------------------------------
\23\ See e.g., Commission Implementing Decision (EU) 2016/377 of 15
March 2016 on the equivalence of the regulatory framework of the United
States of America for central counterparties that are authorised and
supervised by the Commodity Futures Trading Commission to the
requirements of Regulation (EU) No 648/2012 of the European Parliament
and of the Council (https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/
?uri=CELEX:32016D0377&from=EN).
---------------------------------------------------------------------------
The FUSD DCO is not registered under Subpart C of Part 39 at this
time, nor has the FTX Application been filed pursuant to Subpart C of
Part 39. If the FTX Application is approved, the fact that the FUSD DCO
is not registered as a Subpart C DCO would have no bearing on
equivalency determinations made by other countries with respect to the
CFTC's regulatory regime. Those determinations are based on a review of
the CFTC's regulatory regime, not on an individual DCO's operations or
compliance profile. Unless the CFTC's regulations are amended in a way
that departs from consistency with the PFMIs, equivalency
determinations of the CFTC framework made by other countries will
remain in place. The CFTC's approval of the FTX Application would not
change that.
4. The FTX Application Promotes Innovation and Competition
One of the early actions of President Biden and his Administration
was to issue the Executive Order on Promoting Competition in the
American Economy (Competition EO).\24\ Section 1 of the Competition EO
reaffirmed the U.S.'s pro-competition policy and observed:
---------------------------------------------------------------------------
\24\ https://www.whitehouse.gov/briefing-room/presidential-actions/
2021/07/09/executive-order-on-promoting-competition-in-the-american-
economy/.
``A fair, open, and competitive marketplace has long been a
cornerstone of the American economy, while excessive market
concentration threatens basic economic liberties, democratic
accountability, and the welfare of workers, farmers, small
businesses, startups, and consumers . . . [and the] American
promise of a broad and sustained prosperity depends on an open
---------------------------------------------------------------------------
and competitive economy.''
The Competition EO goes on to assign responsibilities to all agencies,
including the CFTC, to:
``Us[e] their authorities to further the policies set forth
in section 1 of this order, with particular attention to . . .
the influence of any of their respective regulations,
particularly any licensing regulations, on concentration and
competition in the industries under their jurisdiction.''
The CEA also specifically refers to competition as a policy goal of the
statute, to wit:
``It is the purpose of this [Act] to serve the public
interests . . . and to promote responsible innovation and fair
competition among boards of trade, other markets and market
participants.'' \25\
---------------------------------------------------------------------------
\25\ The Commodity Exchange Act, 7 U.S.C. section 5(b) (emphasis
added).
Congress therefore has enlisted the CFTC to ensure there is competition
in the U.S. derivatives markets industry. Indeed, Congress since the
beginning of the republic has repeatedly re-affirmed the importance of
competition to the continued strength of the American economy and thus
the strength of the U.S. globally, including through the body of
antitrust law referenced in the Competition EO.
According to data provided by the Futures Industry Association, the
total monthly volumes for futures trading in North America for March
2022 was 504,852,212 futures contracts traded.\26\ For March 2022, the
two largest U.S. derivatives exchanges reported trading volumes of
488,727,555 futures contracts traded.\27\ This figure reflects 97
percent of the total futures trading volume for March 2022.
---------------------------------------------------------------------------
\26\ https://www.fia.org/resources/etd-volume-march-2022.
\27\ See https://www.cmegroup.com/daily_bulletin/monthly_volume/
Web_Volume_Report_
CMEG.pdf; https://www.theice.com/marketdata/reports/8.
---------------------------------------------------------------------------
These same two largest U.S. exchanges are the only CFTC-licensed
venues offering margined futures on BTC at the moment. At the time of
this writing, there were $1,126,498,100 of notional daily trading on
one platform,\28\ and $1,334,715 on the other.\29\ FTX would be able to
contribute to this data set only if the FTX Application is approved.
---------------------------------------------------------------------------
\28\ https://bitcoinfuturesinfo.com/market-share-and-futures-curve.
\29\ Id.
---------------------------------------------------------------------------
If the FTX Application is approved by the CFTC, FUSD plans to list
cash-settled futures contracts on BTC and ETH. The FTX Application and
the model designed to risk manage these futures contracts is specific
to digital assets and is based on several years of experience
successfully operating a similar risk model on the FTX international
platform. At the time of this writing, FTX has no plans to list futures
contracts on other asset classes, and in any case would need to
undertake the process of CFTC reviewing its risk model and product
specifications for any additional products on different asset classes.
FTX encourages the Committee to approach this hearing with this
information, pertinent considerations and policy goals related to
competition and innovation in mind. Indeed, this Committee should be
commended for reviewing whether there is market concentration in other
sectors of the economy under its purview, consistent with the goals of
the Competition EO and longstanding U.S. policy related to
competition.\30\ FTX respectfully requests that the Committee do the
same in reviewing FTX's licensing matter. FTX strongly believes that if
the FTX Application is approved, the company will help address the
challenges facing the U.S. derivatives market place, reduce market
concentration and unleash many of the broadly beneficial and impactful
results that innovation and fresh thinking can bring to the U.S.
economy. The over 1,490 public comments submitted to the CFTC in
support of our application from academics, industry groups, investors
and public-interest groups reflect that many Americans agree.
---------------------------------------------------------------------------
\30\ This Committee held a hearing on April 27, 2022, titled ``An
Examination of Price Discrepancies, Transparency, and Alleged Unfair
Practices in Cattle Markets,'' where among other issues concentration
in the meat packing sector were reviewed and discussed. https://
agriculture.house.gov/news/documentsingle.aspx?DocumentID=2491.
---------------------------------------------------------------------------
Conclusion
FTX is grateful to this Committee for the opportunity to share
information about the digital-asset industry, our business, as well as
the FTX Application.
It's extremely important that there is regulatory clarity and
oversight for digital assets in the U.S. Currently, there is a lack of
customer protection, with very little oversight of the transparency and
products that customers are accessing. The U.S. economy is losing out:
95% of digital asset volume is offshore, meaning a lack of revenue and
income for Americans. Finally, U.S. investors are at a disadvantage
relative to those from other jurisdictions, facing markets with much
less liquidity. Having a clear framework applied for markets and assets
in the digital asset ecosystem would protect customers, move the
industry forward, advance U.S. economic interests, and protect against
system risk.
The CFTC has the tools to be a model regulator for digital assets.
The agency and its staff have deep knowledge of the ecosystem; the
staff has already dove into the details of blockchain-asset custody and
safeguarding customer assets. The principles-based framework under the
CEA is a good fit for the nascent ecosystem, which, combined with the
bipartisan nature of the agency, allow it to nimbly but carefully apply
its core principles and protections to new asset properties. By taking
the lead on enforcement actions in the ecosystem on unregistered
digital asset derivatives, the agency has created a pathway for
licensure. Finally, the CFTC already oversees both direct-access
platforms, and digital-asset futures--there is nothing fundamentally
novel to the agency about FTX's margin application. The industry,
Congress, FTX, and consumers have put their faith in the CFTC to
provide Federal oversight and a pathway to registration and licensure
for digital-asset venues.
In addition, providing licensure for digital-asset exchanges would
increase competition in the derivatives exchange industry. Promoting
competition has been a focus of the agency, the Biden Administration,
House Agriculture Committee Chair Scott, and our antitrust laws.
Increased competition benefits U.S. consumers and the U.S. economy and
ensures global competitiveness for the country.
To be clear, we are not asking for a less thorough review from the
CFTC than is always applied, nor are we looking to discard core
customer protections. The CFTC has spent nearly a year digging into
FTX's application, and done so with a level of rigor and comprehensive
analysis that should make any regulator proud. It is up to the CFTC to
make the judgments it feels are in accordance with the CEA and its core
principles, and we respect that process and whatever conclusions it
ultimately comes to on our margin application.
In order to protect consumers, restore America's global
competitiveness in digital assets, allow the industry to function,
increase competition, and protect against systemic risk, it's
imperative that the CFTC use its jurisdiction over digital-asset
commodities to register marketplaces.
Exhibit A
Understanding FUSD's Guaranty Fund Sizing
Executive Summary
Many of the questions that FTX US Derivatives has received in
connection with its proposal to offer leverage for U.S. crypto futures,
and its $250 million guaranty fund (of unencumbered USD cash), relate
to perceived uncertainty around how or whether the 24x7 risk model and
the guaranty fund will work in times of stress and/or volatility.
Fortunately, through FTX's experience running the FTX.com trading
platform over the last several years, we have objective and historical
data based examples that show how well the FTX risk and clearing model
works.
In this post, we walk through the model and the real world
experience showing that, even on days of 35% or higher movements in the
price of bitcoin, FTX.com has never had to use more of its guaranty
fund than FTX.com made in revenue for that day.
We then observe that while the FUSD risk model will follow the
FTX.com model concept, there are at least two important enhancements
that allow it to provide an even greater level of comfort and
protection to market participants and regulators.
First, the FUSD risk model assumes that it will take 24 hours to
start to close out undercollateralized positions (versus the reality of
the risk program running in real-time)--meaning that the initial margin
requirements themselves are materially more conservative than they need
to be.
Second, FUSD has sized its guaranty fund at a level that is many
multiples of the amount that even its conservative risk model projects
as the required guaranty fund level (i.e., approximately 100 times
times the estimated highest daily draw on the default fund in extreme
volatility scenarios).
Finally, the FUSD initial margin model uses a sophisticated
filtered historical simulation to capture market risk, concentration
risk, and liquidity risk, incorporating anti-pro-cyclicality controls
such as stress VaR and volatility floors.
CFTC Comment Period (Open Until May 11, 2022)
As many are aware, FTX US Derivatives (``FUSD'') operates a futures
exchange and derivatives clearinghouse in the U.S. via licenses issued
by the U.S. Commodity Futures Trading Commission (``CFTC''). Currently,
FUSD is only permitted to list and clear fully collateralized
derivatives products; however, FUSD has requested that the CFTC amend
FUSD's derivatives clearing organization (``DCO'') registration to
permit FUSD to list and clear leveraged/margined futures contracts.
Once approved, FUSD intends to list and clear leveraged/margined
futures and options contracts on digital assets, including bitcoin and
ether, among others.
The CFTC has invited the public to comment on FUSD's request,
through May 11, 2022. The CFTC's six-page request for comment is a
straightforward list of questions and may be viewed here: https://
www.cftc.gov/media/7031/CommentFTXAmendedOrder/download. Any member of
the public may submit a comment here, through May 11, 2022: https://
comments.cftc.gov/PublicComments/CommentForm.aspx?id=7254.
Robustness of the FTX Clearing Model and Guaranty Fund
The FUSD clearing and risk model for leveraged futures products is
patterned on the clearing and risk model that FTX has deployed and
operated on its non-U.S. venue, FTX.com, for several years. FTX.com
routinely handles the trading and clearing of $10 billion or more in
transactions daily, measured on a notional basis (any interested
observer can track daily notional volume and open interest levels for
all of the major global crypto exchanges here: https://ftx.com/volume-
monitor). Notably, the FTX.com risk model operates on a 24 hours a day,
7 days a week basis, and under this risk model positions that become
undercollateralized are de-risked (or ``liquidated'') on an orderly
step basis (i.e., the overall position is reduced/closed out some
percent at a time, subject to prevailing liquidity and market
conditions) through a process that runs essentially in real time. This
is in contrast to the traditional clearing and risk model deployed by
most of the U.S. futures market today--where undercollateralized
positions may generally be held open for a day or more (particularly if
over a weekend), even if the underlying collateral has been completely
exhausted, while the clearinghouse and typically its clearing members
wait for the owner of the undercollateralized position to respond to a
request (i.e., a margin call) to deliver collateral (or margin) in an
amount sufficient to bring the position back above water. Liquidation
or close out of the position is then generally initiated only when the
owner of the position has failed to meet this margin call after some
determined period of time--which could be on a 24 hour delayed basis
or, depending on the market and timing, several days delayed basis.
During that gap, the position can continue to deteriorate and the level
of insufficiently collateralized risk accumulates without being
backstopped (other than by the assets of other market participants and
the clearinghouse).
Under FTX's model, risk is not permitted to build, unchecked, on an
under- or uncollateralized basis, full stop. Instead the FTX risk
model, on a 24x7 basis, operates to de-risk (and liquidate) these
positions in real time, down to levels where the collateral that is
posted is sufficient to support the remaining position (if any). Where
the posted collateral is insufficient to support any remaining
position, the positions may be given over to backstop liquidity
providers (each, a ``BLP'', which generally are sophisticated trading
firms with substantial balance sheets that have pledged, via
contractual agreement and actually posted collateral, to take over
liquidating positions programmatically and in real time; the BLPs
collectively have billions of dollars of collateral sitting in FTX's
clearinghouse at all times). If the BLP program is insufficient to take
over the position, FTX's guaranty fund (which is funded fully by FTX in
cash and has no assessment authority over any other trading
participant, clearing member or otherwise) provides a backstop pool of
capital to wind-up and close-out the position.
As noted above, many of the questions that FUSD has received in
connection with its 24x7 risk model and its $250 million guaranty fund
relate to perceived uncertainty about how it may work in times of
stress and/or volatility. Fortunately, through FTX's experience running
the FTX.com trading platform over the last several years, we have
objective and historical data based examples to demonstrate its
performance.
Mapping the FTX.com Risk and Clearing Model Experience to the FUSD
Proposal
The following core facts underscore our confidence in the
implementation of the FTX.com risk and clearing model as it has been
proposed by FUSD:
While average daily volume ranges from $10 billion to $20 billion
notional, per day, FTX.com has traded up to $50 billion/day of notional
volume and has held up to $11 billion in notional open interest at one
point in time.
Over the last 3 years we have experienced single-day bitcoin price
moves of up to 38%, and the insurance fund has paid out a net total of
$9.5 million (across that entire time period). Generally, FTX.com
operates on a 5% collateral threshold requirement. The single biggest
daily drawdown from the FTX.com insurance fund was $4.7 million, on a
week that the bitcoin price moved down 38%--notably, that drawdown was
less than FTX.com's revenue for that day.
Had FTX.com set margin requirements as high as we plan to for our
U.S. platform, the insurance fund would not have had a drawdown at all
and instead, over time, we would have actually added to the fund. Had
FTX.com set margin requirements to the low end of the range we
anticipate requiring in the U.S.--say, 15%--the single biggest daily
drawdown would have been $1.7 million.
FTX's experience running the FTX risk and clearing model provides
very strong support for concluding that ``it works'', particularly as
it is proposed to be implemented at FUSD. The FUSD default fund is
super sized ($250 million versus a historical draw of less than 1% of
that on FTX.com). In the U.S., the initial margin collateral
requirements are meaningfully higher than the initial collateral
thresholds used on FTX.com, meaning that we anticipate draws to be even
smaller.
Nonetheless, we have already committed to growing the guaranty
fund's minimum size as activity on the platform grows: Instead of
fixing the fund's size to sustain the failure of the largest clearing
FCMs (``Cover-1'' or ``Cover-2''), we have instead voluntarily
committed to cover 10% of total outstanding initial margin, up to a
``Cover-3'' standard if required. This is substantially more
conservative than is required by regulation.
Regarding the risk engine's auto-liquidation feature, two questions
often come up: (1) does the risk engine promote pro-cyclicality in the
market; (2) what implications does the risk engine's behavior have for
systemic risk and contagion; and (3) is there a way for an investor to
opt out of the auto-liquidation feature of the risk engine. First, FTX
has built in risk-mitigating protections to address pro-cyclicality,
including price bands, position limits and concentration charges on
platform users whose positions reach a certain threshold--all of these
features together restrain the extent to which market prices will move
in response to the risk engine liquidating a customer position.
The anti-pro-cyclical nature of the FTX.com margin model has been
proven over time: Orderly liquidation of undercollateralized positions
has been refined and tested through multiple high volatility days and
periods over recent years. The risk engine is also built to wind down
positions in an orderly manner, limiting its activity to a small
fraction of overall market volume so as to avoid undue temporary
impact.
Second, by quickly unwinding the riskiest, most undercollateralized
positions, the risk engine prevents build-up of credit risk that could
otherwise cascade beyond the platform, resulting in contagion. Because
the risk engine operates 24x7, moves in the underlying cash markets,
which are also 24x7, do not result in excessive credit risk buildup in
derivatives markets. This is especially true during overnight, weekend
or holiday times, when traditional derivatives markets remain closed.
Instead, the platform reduces systemic risk by closing down or
otherwise re-collateralizing these positions in real-time (as described
below).
Third, the FUSD platform offers multiple methods for connecting to
the platform, including through an FCM--indeed, the FTX.com platform
has brokers connected to the platform today. For users that connect
through an FCM to FUSD, there are a variety of methods the FCM could
deploy to ``shield'' an investor from auto-liquidation of her position,
including the fee-service of re-collateralizing to the investor's
account as necessary to prevent liquidation of the position.
No one is more interested in ensuring that the risk and clearing
model holds up in even the most extreme of conditions than us, as we
are backstopping it with the guaranty fund. FTX.com's experiences have
allowed the FUSD risk team to build a model that is time tested and
exceptionally persistent (however measured, across any number of
quantitative metrics). The chart below helps illustrate these points in
a striking way: Based on historical data, the FUSD guaranty fund would
have actually grown in size over time if the FTX margin model had been
in operation over the past 3 years, under our anticipated minimum U.S.
initial margin requirements.
Insurance Fund vs. Revenue
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Above, a graph over the lifetime of FTX.com of the
performance of its risk engine. The yellow line is a $250m
initial guaranty fund size; the blue line is the empirical
performance of the FTX.com insurance fund, and the orange line
is the performance the insurance fund would have had if it had
required 15% margin, which is on the lower end of FUSD's
anticipated range. The fluctuations are small under both the
FTX.com and FUSD risk models, and under the FUSD model the
guaranty fund actually grows over time. For reference, the gray
line is FTX.com's cumulative historical revenue. Net movements
in the guaranty fund are less than 1% of the initial size and
less than 1% of the revenue FTX.com collected over the period.
----------------------------------------------------------------------------------------------------------------
Total Daily Max
----------------------------------------------------------------------------------------------------------------
Volume traded $6,288,391,118,700 $5,833,386,938 $53,068,090,693
Revenue $1,382,091,723 $1,282,089 $12,800,764
Open Interest (approx.) $7,000,000,000,000 $7,000,000,000 $11,000,000,000
Abs BTC move 2,989.1% 2.8% 38.9%
Abs ETH move 3,862.6% 3.6% 43.9%
Insurance fund net usage ^$9,468,974 ^$8,784 ^$4,686,029
Insurance fund with U.S. margin $45,048,377 $41,789 ^$1,628,656
----------------------------------------------------------------------------------------------------------------
The Chairman. Thank you. And now Mr. Lukken, please begin
when you are ready.
STATEMENT OF HON. WALTER L. LUKKEN, J.D., PRESIDENT AND CHIEF
EXECUTIVE OFFICER, FUTURES INDUSTRY
ASSOCIATION, WASHINGTON, D.C.
Mr. Lukken. Chairman Scott, Ranking Member Thompson, and
Members of the Committee, thank you for the opportunity to
testify. It is indeed great to be back in this Committee room.
I am President and CEO of FIA, a leading global trade
organization for the futures, options, and centrally cleared
derivatives markets. And today indeed is a healthy dialogue for
our industry. As someone who has served as CFTC acting Chair
and Commissioner, I am proud of the CFTC's mission to not only
uphold strong customer protections and police the integrity of
the markets but also promote responsible innovation and fair
competition among market participants. In crafting this
balanced mission, Congress and this Committee were careful in
making sure innovation and competition were advanced
responsibly and fairly without jeopardizing the integrity or
financial stability of our markets or the protections afforded
to customers.
Today, we are at an inflection point that requires us to
carefully consider the benefits of an alternative clearing
structure and ensure it does not compromise the battle-tested
protections and checks of the existing clearing model. The CFTC
is now considering a proposal by FTX that would replace the
traditional clearing model that distributes risk using futures
commission merchants with a more automated and centralized one.
Specifically, the FTX direct clearing proposal would for the
first time combine margin futures with near real-time
margining, 24/7 auto-liquidation to under-margin customers, and
a self-funded CCP default fund without the benefits of FCMs
managing, underwriting, and mutualizing customer risk.
It is important to point out that the FTX proposal would
permit futures trading at any underlying asset class transacted
by any type of customer, including commercial hedgers. This
requires us to view this proposal with an eye beyond retail
cryptocurrencies. We must also consider the core users of our
markets, including farmers, refiners, pension funds, and other
main street businesses that use futures to hedge price risk in
the real economy.
When contemplating such transformative change, FIA
encourages policymakers to consider the fundamental guiding
framework articulated in President Biden's recent Executive
Order on digital assets: same business, same risks, same rules.
FIA believes the CFTC must analyze FTX's proposal against the
important customer protections and risk management functions
that registered FCMs currently provide the marketplace.
As agents for their customers, FCMs hold various regulatory
responsibilities, including vetting customers on the
appropriateness of these leveraged products, policing clients
for money laundering, segregating customer funds, guaranteeing
customer trades, holding significant regulatory capital against
those trades, contributing to clearinghouse default funds, and
agreeing to further assessments should the CCP default fund
need replenishment. Today, U.S. registered FCMs contribute more
than $15 billion to CCP default funds and hold an additional
$175 billion of their own regulatory capital. This layer of
financial resources backstops the potential default of
customers and protects the markets and the wider financial
system from a contagion event.
FIA believes there needs to be further analysis of the FTX
risk model in extreme but plausible scenarios, especially for
large commercial participants and other asset classes beyond
retail cryptocurrencies. Given the model relies on continuous
liquid markets that are open 24/7, questions remain around the
market impact of auto-liquidation feature for close out of
large positions in less-liquid markets. We must ensure that the
model does not trigger a broader fire sale in the central price
discovery market that harms hedgers and exacerbates further
market disruption.
To conclude, FIA supports efforts to further advance real-
time risk management in clearing and bring greater competition
to the markets. The FTX proposal has advanced a healthy debate
in our industry. However, we believe that further analysis and
information are needed on the FTX proposal, and we look forward
to the deliberative process of the CFTC that will help bring
additional clarity and information to this unique clearing
model. Thank you, Mr. Chairman.
[The prepared statement of Mr. Lukken follows:]
Prepared Statement of Hon. Walter L. Lukken, J.D., President and Chief
Executive Officer, Futures Industry Association, Washington, D.C.
Chairman David Scott, Republican Leader G.T. Thompson, and Members
of the Committee, thank you for the opportunity to testify about the
U.S. derivatives market structure and the unique proposal set forth by
FTX US.
I am President and CEO of the FIA, a leading global trade
organization for the futures, options and centrally cleared derivatives
markets. As someone who also served on the Commission for many years, I
am proud of the CFTC's long history of supporting innovation and
competition in the derivatives markets.
In fact, Congress wisely instructed the CFTC in its mission to, not
only uphold strong protections for customers and police the integrity
of the markets, but also ``promote responsible innovation and fair
competition'' among market participants. In crafting this balanced
mission, this Committee was careful in making sure innovation and
competition were advanced responsibly and fairly without jeopardizing
the integrity or financial stability of the markets or the protections
afforded to customers.
Today, we are at an inflection point that requires us to carefully
consider the benefits of an alternative clearing structure and ensure
it does not compromise the battle-tested protections and checks of the
existing structure afforded to customers and markets. The CFTC is now
considering a proposal by FTX that would replace the traditional
distributed risk clearing model that utilizes Futures Commission
Merchants (FCMs) with a more automated and centralized one that does
not utilize intermediation.
Specifically, the FTX direct clearing proposal would, for the first
time, combine margined futures with near real-time margining, 24/7 auto
liquidation of defaulting customers, and a self-funded CCP default fund
without the benefit of FCMs underwriting customer risk.
It is important to point out that FTX's proposal would permit
futures trading in any underlying asset class transacted by any type of
customer, including commercial hedgers. This requires us to view this
proposal with an eye beyond retail cryptocurrencies. We must also
consider the core users of our markets, including farmers, refiners,
pension funds, and other main street businesses that use futures to
hedge price risk in the real economy.
When contemplating such transformative change, FIA encourages
policymakers to consider the fundamental guiding framework articulated
in President Biden's recent Executive Order on digital assets: Same
Business, Same Risks, Same Rules. FIA believes the CFTC must analyze
FTX's proposal against the many important customer protections and risk
management functions that registered FCMs currently provide the
marketplace.
As agents for their customers, FCMs hold various regulatory
responsibilities including vetting customers on the appropriateness of
these leveraged products, policing clients for money laundering,
segregating customer funds, guaranteeing customer trades, holding
significant regulatory capital against those trades, contributing their
own ``skin in the game'' capital to the central counterparty (``CCP'')
default fund, and agreeing to further assessments should the CCP
default fund need replenishment.
Today U.S. registered FCMs hold roughly $175 billion in regulatory
capital that backstops their guaranty of customer trades and serves as
a first line of defense against a more serious contagion event that
could spread to a CCP and beyond. Additionally, these FCMs contribute
another $15 billion to clearinghouse default funds that serves to
incentivize careful risk management and distribute risk among highly
capitalized institutions during a stressed market crisis.
FIA also believes there needs to be further analysis of the FTX
risk model in extreme but plausible scenarios, especially for large
commercial participants in other asset classes beyond retail digital
currencies. Given the model relies on continuous liquid markets that
are open 24/7, questions remain around the market impact of the auto-
liquidation feature for the close-out of large positions in less liquid
markets. We must ensure that the model does not trigger a broader fire
sale in the central price discovery market that harms hedgers and
exacerbates further market disruption.
Conclusion
FIA supports the efforts of FTX to further advance real-time risk
management in clearing and bring greater competition to our markets.
Their proposal has advanced a healthy debate in our industry. However,
we believe that further analysis and information are needed on the FTX
proposal, and we look forward to the deliberative process of the CFTC
that will help bring additional clarity and information to this unique
clearing model.
The Chairman. Thank you, Mr. Lukken. And now Mr. Edmonds,
please begin when you are ready.
STATEMENT OF CHRISTOPHER S. EDMONDS, CHIEF
DEVELOPMENT OFFICER, INTERCONTINENTAL EXCHANGE, INC., ATLANTA,
GA
Mr. Edmonds. Thank you, sir. Chairman Scott, Ranking Member
Thompson, Committee Members, I am Chris Edmonds, Chief
Development Officer, Intercontinental Exchange, or ICE. I have
responsibility for all of ICE's clearinghouses and risk teams.
I appreciate the opportunity to appear before you today to
discuss the important role of clearing and the pending FTX
application at the Commodity Futures Trading Commission.
The U.S. is a global leader in capital and derivatives
markets, enabling participants to hedge risk and manage their
businesses. Throughout the market's history, there have been
new and innovative technology-based ideas promising multiple
efficiencies. ICE has a robust history of innovation. However,
the adoption of new technology and processes comes with the
potential risk for unintended consequences. Innovation cannot
supersede the primary functions of futures markets for price
discovery and hedging.
As articulated by the leadership at FTX, the company's
technology risk management processes and proposed regulatory
framework have been constructed to revolutionize clearing and
address purported issues with the current offerings. ICE is
fully supportive of using new technology to deliver more
efficient markets. But as policymakers examine this
application, they must remain mindful of the risk.
As this Committee is aware, years ago, executives from
Enron stood in these halls before regulators offering new ideas
as to how markets should operate. Under the current system
codified by the Dodd-Frank Act, separately capitalized governed
and regulated clearing organizations managed settlement of
financial transactions executed by market participants
typically via regulated clearing members. All of these
participants serve important checks in the system against
excessive leverage, new products that are not well-tested or
appropriate for widespread use, and the introduction of
unexpected counterparty risk.
ICE believes these independent stakeholders provide
significant benefits to helping deliver market consensus.
Regulated clearinghouses, working in conjunction with regulated
exchanges and in most cases market intermediaries, increase
stakeholder confidence in fair markets, transparent pricing,
and fully understood settlement processes.
FTX plays a leading role in the markets for digital assets,
and regulatory oversight will help lead to decision-making and
risk management practices that are balanced. However, we do
have concerns with the approach FTX has proposed for this
application. Rather than following global guidelines and
existing regulations, FTX has requested a new set of rules not
currently compliant with CFTC regulations and global standards
and potentially sets dangerous precedents. FTX's application
raises significant questions around risk management, financial
resources, investors' protections, and the collection and
safeguarding of margin on non-intermediate clearing model that
today has significant participation.
ICE recommends the Committee explore the risks raised by us
and others for the application and the potential market
implications. Given my 25 years of experience in these markets,
I am confident no Member of this Committee wants to learn of
constituents losing their hedge protection because the market
moved against them at 3:00 a.m. on a Saturday morning.
The current system is a pay-as-you-go system whereas the
FTX application is a go-as-you-pay service, meaning
participants automatically lose their position if the market
moves against them without the ability to bolster their stake
with additional margin. The upshot of these model differences
has the potential to impact users of futures markets
significantly and detrimentally.
This Committee should continue its globally recognized
leadership in market structure when evaluating the proposal.
Approval in its current form may lead other jurisdictions to
challenge the pragmatic and principle-based approach the CFTC
has championed.
ICE has embraced competition from our founding, and we do
not believe there is a single model for clearing that is
appropriate for all products and markets. ICE operates
traditional intermediated clearing for futures exchanges and
over-the-counter derivative markets, as well as non-
intermediated clearing for certain energy products used by
commercial and institutional market participants. In all cases
ICE clearinghouses are compliant with global regulatory
standards and CFTC rules as written today and did not require
new CFTC rulebooks to be successful.
I appreciate this opportunity to appear before you today
and look forward to answering any questions the Members of the
Committee may have. Thank you.
[The prepared statement of Mr. Edmonds follows:]
Prepared Statement of Christopher S. Edmonds, Chief Development
Officer, Intercontinental Exchange, Inc., Atlanta, GA
Introduction
Chairman Scott, Ranking Member Thompson, I am Chris Edmonds, Chief
Development Officer for Intercontinental Exchange, or ICE. I appreciate
the opportunity to appear before you today, as this Committee looks at
the FTX US Derivatives (``FTX'') request for an amended derivatives
clearing organization (``DCO'') registration order to permit clearing
of margined products through a retail, non-intermediated clearing
model.\1\
---------------------------------------------------------------------------
\1\ Available at https://www.cftc.gov/PressRoom/PressReleases/8499-
22.
---------------------------------------------------------------------------
Clearing houses play a critical role in the financial markets that
serve the needs of participants around the globe. Policy makers across
the world, including this Committee, have an interest in safe and
efficient markets. To further the common interest of well-functioning
markets and well-regulated clearing houses, we appreciate the
opportunity to participate in this hearing as it examines the FTX
request to amend its DCO order to offer direct clearing to retail
participants for margined derivative products.
Background
Since launching an electronic over-the-counter (OTC) energy
marketplace in 2000 in Atlanta, Georgia, ICE has expanded both in the
U.S. and internationally. Over the past seventeen years, we have
acquired or founded derivatives exchanges and clearing houses in the
U.S., Europe, Singapore and Canada. In 2013, ICE acquired the New York
Stock Exchange, which added equity and equity options exchanges to our
business. Through our global operations, ICE's exchanges and clearing
houses are directly regulated by the U.S. Commodity Futures Trading
Commission (CFTC), the Securities and Exchange Commission (SEC), the
Bank of England, the UK Financial Conduct Authority (FCA), the European
Securities and Markets Authority (ESMA) and the Monetary Authority of
Singapore, among others.
ICE has a successful and innovative history of clearing exchange
traded and OTC derivatives across a spectrum of asset classes,
including energy, agriculture and financial products. Today, ICE owns
and operates six geographically diverse clearing houses that serve
global markets and customers across North America, Europe and Asia.
Each of these clearing houses is subject to direct oversight by local
national regulators, often in close coordination and communication with
other regulatory authorities with important interests, and subject to
regulations reflective of the G20 reforms and IOSCO principles.
ICE acquired its first clearing house, ICE Clear U.S., as a part of
the 2007 purchase of the New York Board of Trade. ICE Clear U.S. is
primarily regulated by the CFTC and is recognized by ESMA and clears a
variety of agricultural and financial derivatives. In 2008, ICE
launched ICE Clear Europe, the first new clearing house in the UK in
over a century. ICE Clear Europe clears derivatives in several asset
classes, including energy, interest rates, equity and credit
derivatives, and is primarily supervised by the Bank of England, in
close cooperation with the CFTC, the SEC and ESMA. ICE Clear Credit was
established as a trust company in 2009 under the supervision of the
Federal Reserve Board and the New York State Banking Department and
converted to a derivatives clearing organization (DCO) following
implementation of the Dodd-Frank Wall Street Reform and Consumer
Protection Act (Dodd-Frank Act). ICE Clear Credit is primarily
regulated by the CFTC and SEC and is also recognized by ESMA and clears
a global set of credit default swaps on indices, single names and
sovereigns. In 2017, ICE acquired ICE NGX as part of the sale of
Trayport. ICE NGX operates a non-intermediated model for clearing of
North American energy products and is regulated by the Alberta
Securities Commission and the CFTC. ICE also operates ICE Clear
Netherlands under the regulatory supervision of De Nederlandsche Bank,
Autoriteit Financiele Markten and ESMA and ICE Clear Singapore which is
overseen by the Monetary Authority of Singapore.
Clearing Houses Vital Role in the Derivatives Market
The risk-reducing benefits of central clearing have long been
recognized by users of exchange-traded derivatives (futures) and the
pre-existing regulatory framework and efficacy of the clearing model
throughout even the most challenging financial situations made it the
natural foundation of the financial reforms put forward over the past
decade. Clearing has consistently proven to be a fundamentally safe and
sound process for managing systemic risk. Observers frequently point to
non-cleared derivative contracts as a significant factor in the broad
reach and complexity of the 2008 financial crisis, while noting the
relative stability of cleared markets.
As part of the increased use of clearing, clearing houses and
market participants have worked to ensure that the clearing process is
robust and resilient and supported by adequate financial, risk
management, and operational resources. The Principles for Market
Infrastructure (PFMI) represent the internationally agreed-to framework
for achieving these goals and are intended to ensure that fundamental
protections apply internationally and reduce the risk of regulatory
arbitrage. National regulators in G20 jurisdictions have implemented
the key aspects of the PFMIs into their regulatory frameworks. This
process has set an appropriate standard across numerous jurisdictions
for the regulation of a clearing house.
The FTX model raises significant questions around risk management,
financial resources, investor protections and the collection of margin
in a retail non-intermediated clearing model. Retail non-intermediated
clearing substantially differs from both the traditional mutualized
clearing model and a non-intermediated clearing model restricted solely
to commercial and institutional participants. FTX's proposal eliminates
sound risk management practices and many customer protections for
retail participants, which are key features of the centrally cleared
derivatives markets. FTX's proposed structure creates risk-taking
incentives that may serve to increase, rather than reduce, the risk to
market participants and the global financial system.
In addition, while FTX's current business focuses on digital
assets, the proposed framework is not limited to digital assets. The
proposed model significantly deviates from the current regulatory
framework and the CFTC should evaluate the implications of these
changes. If the FTX proposal is approved, clearing houses could apply
this model to other markets such as traditional agriculture or energy
commodities. The CFTC must consider the implications of the proposed
model as a policy matter for all products and markets. Innovation
cannot supersede the primary functions of futures markets for price
discovery and hedging. The FTX proposal raises many questions and
concerns. As such, the CFTC should use its rulemaking process to
propose and fully vet any necessary modifications to the current rules
to fit a retail non-intermediated market structure.
In addition, while FTX's current business focuses on digital
assets, the proposed framework is not limited to digital assets. The
proposed model significantly deviates from the current regulatory
framework and the CFTC should evaluate the implications of these
changes. If the FTX proposal is approved, clearing houses could apply
this model to other markets such as traditional agriculture or energy
commodities. The CFTC must consider the implications of the proposed
model as a policy matter for all products and markets. Innovation
cannot supersede the primary functions of futures markets for price
discovery and hedging. The FTX proposal raises many questions and
concerns. As such, the CFTC should use its rulemaking process to
propose and fully vet any necessary modifications to the current rules
to fit a retail non-intermediated market structure.
Cross-Border Regulation and Equivalence
Cross-border oversight and regulatory deference to home country
regulators is essential to well-functioning markets. The CFTC and
global regulators have worked together to implement relevant laws,
standards, and policies that further the goal of financial stability
and resilience, while minimizing supervisory duplication and conflict.
Global regulators have recognized third-country clearing houses as
equivalent allowing market participants to continue accessing global
markets. ICE does not believe the FTX proposal fully satisfies the
PFMIs and Commission regulations and as such, the CFTC should carefully
consider the cross-border implications of approving a clearing model
that fails to satisfy the PFMIs. Other jurisdictions including the
European Union (``EU'') and the United Kingdom (``UK'') rely on
compliance with the PFMIs to determine whether a jurisdiction has
comparable or equivalent regulation. The current recognition of U.S.
clearing houses in the EU and UK is based on this determination of
equivalence. It is critical that any action by the CFTC not jeopardize
the existing foreign equivalence determinations applicable to U.S.
clearing houses.
Current Regulatory Framework
The FTX proposal raises significant questions regarding compliance
with the PFMIs and CFTC regulations. Specifically, the FTX proposal
does not fully meet PFMI standards and CFTC rules for credit risks,
sufficient financial resources to cover participant exposure, liquidity
risks, default management, governance, and customer protections. Under
the FTX proposal, the clearing house does not evaluate and monitor the
credit risk of its participants. FTX does not have credit standards for
participants nor are participants required to meet any minimum capital
or asset requirements. The clearing house does not conduct any due
diligence on a participant's ability to perform its obligations and the
FTX proposal does not indicate that FTX would review individual
participants financial reports. The clearing house would solely rely on
margin provided by the participant and the automated close-out
methodology. This approach removes a fundamental protection existing in
other clearing models where the clearing house can look to the
financial strength of the participants in addition to the posted
margin. Moreover, the proposed auto-liquidation process would manage
capital-related risks other than through participant capital
requirements, as required.
Moreover, there are fundamental differences between the traditional
clearing house model and the FTX model related to the treatment of
losses in a portfolio. Currently, clearing houses operate a ``pay as
you go'' model, meaning losses are settled at least once a day. This
model allows participants to maintain their positions notwithstanding
negative market moves. Conversely, the FTX model is a ``go as you pay''
model. In this model, when a participant's collateral is eroded below a
prescribed threshold, FTX liquidates the position and the participant's
participation is stopped. The FTX participants lose their positions
when the market moves against them, and they are liquidated at adverse
prices. ICE notes the risks to the market and other participants when a
clearing house is forced to automatically liquidate and the potential
for a cascading downward spiral, especially in relatively illiquid
markets.
In addition, the financial resources supporting the clearing house
are key to the management and mitigation of credit risk and to ensuring
the safety, soundness and robustness of the clearing system. The cover-
1/cover-2 standard is designed for clearing arrangements with
institutional clearing members. This standard, in addition to the FTX
proposed cover-3 alternative, is not suitable for a retail non-
intermediated clearing model based on the large number of small retail
market participants. Such an approach would include a small proportion
of a DCO's exposure to a participant default against which to make a
reasoned assessment of appropriate financial resource requirements.
Nonetheless, it is essential that each clearing organization be subject
to a robust financial resource standard--particularly when the
participants at risk of a default by the clearing house are individual
retail investors.
Moreover, FTX proposes to allow itself to use customer funds for
FTX operations and replace the funds at some point in the future. The
FTX proposal states that in some cases margin provided by users may be
used for liquidity purposes or haircut due to losses caused by other
users. This approach is inconsistent with the approach taken by other
clearing houses in default management where margin of a non-defaulting
member is not subject to use in the default by another member. It is
also inconsistent with the general principles under Section 4d of the
Commodity Exchange Act and CFTC regulations which prohibit funds of one
customer to be used to cover obligations of another.
Comparison to Other Non-Intermediated Models
ICE has significant experience with non-intermediated clearing
arrangements through its ICE NGX clearing house. ICE NGX operates a
sophisticated commercial market, offering clearing services to
producers, marketers and utilities in the physical energy markets of
North America. Commercial and institutional participants utilize the
ICE NGX markets to manage risk associated with a physical energy
business. ICE NGX has been clearing physical energy products for over
20 years and has a history of managing volatility and participant
defaults. ICE NGX has a risk profile that differs substantially from
the FTX proposal and has numerous features and protections that are not
present in the FTX proposal. ICE NGX participation is restricted to
commercial market participants that meet minimum financial
requirements. ICE NGX can also call for additional collateral and there
is no auto-liquidation function. Participants in cleared physical
markets are also required to have the capability to make and take
delivery of underlying energy commodities, which discourages pure
speculative trading firms from participating. The ICE NGX commercial
non-intermediated model includes robust risk management and financial
protections that comply with CFTC regulations and the internationally-
agreed standards applicable to clearing houses. The FTX proposal does
not share many of these features and raises issues that differ from
those of existing institutional non-intermediated arrangements.
Conclusion
ICE has always been, and remains, a strong proponent of open and
competitive markets with appropriate regulatory oversight. As an
operator of global futures and derivatives markets, ICE understands the
importance of ensuring the utmost confidence in financial markets. To
that end, the FTX proposal raises significant policy issues as well as
questions about compliance with the PFMIs and Commission regulations
that warrant further analysis. The approval of the FTX proposal could
undermine the internationally agreed to framework and Commission
regulations intended to achieve the goal of a robust and resilient
clearing process.
Mr. Chairman, thank you for the opportunity to share our views with
you. I would be happy to answer any questions you and Members of the
[Committee] may have.
The Chairman. Thank you. And now, Mr. Perkins, you are
recognized for 5 minutes.
STATEMENT OF CAPT. CHRISTOPHER R. PERKINS, (RET.), U.S.
MARINES; MANAGING PARTNER AND PRESIDENT, CoinFund MANAGEMENT
LLC, NEW YORK, NY
Mr. Perkins. Chairman Scott, Ranking Member Thompson,
Members of the Committee, and distinguished guests, thank you
for giving me the opportunity to testify before this Committee
today. It is an honor and a privilege to share my perspective
on how America can embrace innovation and the promise of web3
to reinforce our leadership in the global financial system
while doing so responsibly in a manner that protects investors
and manages risk.
I serve as President of CoinFund Management LLC, a web3-
focused registered investment advisor founded in 2015. Prior to
this role, I served as a global co-head of the futures,
clearing, and foreign exchange prime brokerage businesses at
Citi and also served on the executive committee and board of
directors of the FIA. My views on risk management were
initially shaped on the battlefields in Ar-Ramadi, Iraq, where
I had the honor of serving as a United States Marine. I
subsequently transitioned to Lehman Brothers where I witnessed
firsthand the perils of unregulated, highly speculative
derivatives markets that brought the global financial system to
its knees.
For over a decade that followed, I worked closely with
global regulators and policymakers to implement reforms to the
derivatives industry and in the process worked with my team to
build one of the most prominent intermediary derivatives
businesses in the world. I see the cultivation of deep, liquid,
accessible and secure derivatives markets as an important
cornerstone of our economy and an essential pillar of effective
risk management.
The arrival of web3 could potentially transform the global
economy into a more creator-led, open, inclusive, and
democratic ecosystem, aligning perfectly with shared,
bipartisan, American values. With principles-based,
transparent, and predictable policy and regulation, the U.S.
will empower entrepreneurs to build and innovate onshore, which
will fuel the economy, catalyze job creation, and reinforce
U.S. leadership across the global financial markets.
Like it or not, the risk-management realities and
challenges of digital asset markets that function 24 hours a
day, 7 days a week have arrived. According to a recent poll by
NBC News, one in five Americans have invested in, traded, or
used cryptocurrencies. The cryptocurrency market that is
emerging is a more inclusive one with communities of color
leading user adoption. Today, these communities can legally
take risk via exposure to a vast array of spot digital assets,
but their ability to hedge that risk through the derivatives
market is extremely limited because the legacy intermediated
derivatives market structure is unprepared to support the risk-
management realities of the digital asset class.
However, the FTX proposal to allow direct access
derivatives clearing powered by real-time risk and
collateralization engines promises to bring much-needed
innovation to U.S. digital asset derivative markets. From my
perspective, the FTX proposal, if adopted, would reduce
systemic risk through real-time collateralization and risk
management, offer industry participants the ability to more
dynamically hedge digital asset risk, introduce incremental
competition and choice which will facilitate a more inclusive,
cost-effective marketplace, and revitalize U.S. digital asset
derivative markets at a time when leadership and innovation
have migrated overseas.
Certainly, there are risks to deploy new technologies, and
any proposed model must prove that it can meet and exceed the
same extreme but plausible stress scenarios applied to legacy
clearinghouses via existing regulation. Moreover, appropriate
disclosures must ensure that industry participants clearly and
transparently understand the unique nuances and risks of
participating in a direct clearing model, including the risk of
liquidation.
Finally, guardrails to dissuade excessive speculation as
they exist today in traditional futures markets should continue
to be considered by regulators. Appropriately implemented, the
direct model proposed by FTX could catalyze a new era of
responsible innovation and unlock new capabilities to hedge
risk at a time when, by unofficial estimates, more than 90
percent of crypto derivatives activity have migrated overseas.
In conclusion, I support FTX's application to offer a
direct clearing model for digital asset derivatives. Direct
access will foster a more inclusive and liquid derivatives
market in the United States, finally giving investors the
ability to access derivative markets to hedge their risk. With
the appropriate regulatory guardrails in place, this model will
result in a more resilient, efficient, and dynamic system. I
look forward to your questions today, and thank you.
[The prepared statement of Capt. Perkins follows:]
Prepared Statement of Capt. Christopher R. Perkins, (Ret.), U.S.
Marines; Managing Partner and President, CoinFund Management LLC, New
York, NY
Chairman Scott, Ranking Member Thompson, Members of the Committee,
and distinguished guests, thank you for giving me the opportunity to
testify before this Committee today. It is an honor and a privilege to
share my perspective on how America can embrace innovation to reinforce
our leadership in the global financial system while doing so
responsibly, in a manner that protects investors and thoughtfully
manages risk.
I serve as President of CoinFund Management LLC, a web3-focused
registered investment adviser founded in 2015. Prior to this role, I
served as Global Co-head of the Futures, Clearing and Foreign Exchange
Prime Brokerage (FXPB) businesses at Citi and also served on the
Executive Committee and Board of Directors of the FIA. I am the co-
founder of Veterans on Wall Street (VOWS) and more recently, Veterans
in Digital Assets (VIDA), an initiative designed to help transitioning
military veterans and their spouses find fulfilling careers in the
web3.
I began my professional career in the United States Marine Corps,
where I had the honor of serving our country on the battlefield in Ar-
Ramadi, Iraq. The violent urban warfare I experienced left me with a
renewed perspective, deep sense of purpose and a thorough understanding
of risk management. I subsequently transitioned to Lehman Brothers
where I witnessed firsthand the perils of unregulated, highly
speculative derivatives markets that brought the global financial
system to its knees. For over a decade that followed, I worked closely
with global regulators and policymakers to implement reforms to the
derivatives industry, and in the process, worked with my team to build
one of the most prominent intermediary clearing businesses in the
world. My unique background blends deep experience in derivatives,
market structure and risk management, coupled with ``sell side'' and
``buy side'' market perspectives across traditional finance and digital
asset ecosystems. I see the cultivation of deep, liquid, accessible and
secure derivatives markets as an important cornerstone of our economy
and an essential pillar of effective risk management.
From my perspective, the United States needs to make a choice. We
can embrace new technologies, like blockchain, to unlock responsible
innovation and inclusion across finance and risk management, or we will
risk being left behind by those that do. With principles-based,
transparent and predictable policy and regulation, the U.S. will
empower entrepreneurs to build and innovate onshore, which will fuel
the economy, catalyze job creation, and reinforce U.S. leadership
across the global financial markets.
Recently, President Biden's Executive Order (EO) on Ensuring
Responsible Development of Digital Assets outlined a comprehensive
policy approach to balance the risk and promise of digital asset
technologies.
Bipartisan themes highlighted in the EO include:
Protect U.S. and global financial stability and mitigate
risk
Promote leadership in technology and economic
competitiveness to reinforce U.S. leadership in the global
financial system
Promote equitable access to safe and affordable financial
services
Support technological advances and ensure responsible
development of use of digital assets
Applying these themes to digital asset derivative markets, it is
clear that our legacy, intermediated derivatives market structure is
unprepared to support the risk management realities of this new asset
class, leaving market participants with few effective and efficient
choices to hedge risk. However, the FTX proposal to allow direct
access, margined derivatives clearing, powered by real time risk and
collateralization engines, promises to bring much needed, responsible
innovation to U.S. digital asset derivative markets, allowing it to
compete globally by aligning with the shared, bipartisan ideals
outlined above.
From my perspective as a former head of one of the largest
derivatives intermediaries, or Futures Commission Merchants (FCMs), in
the world, the FTX proposal, if adopted, would:
Reduce systemic risk in a U.S. derivatives industry that has
grown increasingly concentrated and chronically under-
collateralized--largely due to operational shortfalls,
Offer industry participants the ability to more dynamically
hedge digital asset risk,
Introduce incremental competition and choice which will
facilitate a more inclusive, cost-effective marketplace, and
Revitalize U.S. digital asset derivative markets at a time
when leadership and innovation has migrated overseas.
Certainly, there are risks to deploying new technologies and any
proposed model must prove that it can meet and exceed the same
``extreme but plausible'' stress scenarios applied to legacy clearing
houses via existing regulation. Moreover, appropriate disclosures and
customer protections must be implemented to ensure that industry
participants clearly and transparently understand the unique nuances
and risks of participating in a direct clearing model--including the
risk of liquidation (which is a risk that all current futures
participants face today). Finally, guardrails to dissuade excessive
speculation--as they exist today in traditional future markets--should
continue to be considered by regulators. However, I believe that the
impact of not embracing innovation and technology is a far greater risk
to our economic future.
Like it or not, the risk management realities and challenges of
cryptocurrency markets--powered by blockchain technology--that function
24 hours a day, 7 days a week, have arrived. According to a recent poll
by NBC News, one in five Americans have invested in, traded or used
cryptocurrencies.\1\ The cryptocurrency market that is emerging is a
more inclusive one. A survey by Ariel Investment and Charles Schwab
Corp revealed that 38% of Black investors under 40 years old own
digital tokens, compared with 29% for their White counterparts.\2\
Today, these communities can legally take risk via exposure to a vast
array of spot digital assets, but their ability to hedge that risk
through the derivatives market is extremely limited due to the
unavailability of FCMs and lack of available products. Unfortunately,
legacy ``batch'' margining technology and existing processes simply
cannot keep pace, leaving intermediaries with risk and capital
challenges that impede their ability to support this rapidly emerging
asset class.
---------------------------------------------------------------------------
\1\ Thomas Franck, ``One in five adults has invested in, traded or
used cryptocurrency, NBC News poll shows,'' CNBC, March 31, 2022.
\2\ Kelsey Butler, ``Young Black Americans Wary of Stock Market Are
Turning to Cryptocurrency,'' Bloomberg, April 5, 2022.
---------------------------------------------------------------------------
The FTX proposal will give industry participants new choices and
new capabilities to properly manage risk through hedging by unlocking
regulated derivatives across the digital asset ecosystem. Moreover, the
FTX proposal will cultivate a true ``defaulter pays'' \3\ clearing
model, which secures the system through real time risk management,
where risk is mitigated with the collateral of risk takers and the
clearing house, itself. Appropriately implemented, the direct model
proposed by FTX could catalyze a new era of responsible innovation
across derivatives markets and unlock new capabilities to hedge risk at
a time when, by unofficial estimates, more than 90% of crypto
derivatives activity has migrated overseas.
---------------------------------------------------------------------------
\3\ ``Defaulter Pays'' is when a defaulter's own contributed
collateral is sufficient to cover losses during a liquidation scenario.
---------------------------------------------------------------------------
In the aftermath of the Global Financial Crisis, the G20
[1] doubled down on the central clearing model by committing
to transition the $700 trillion OTC derivative markets into this
legacy futures market structure framework. Without scalable technology
that could be used to distribute and decentralize risk, policy makers
had few alternatives--and instead chose a highly centralized and highly
regulated, intermediated market structure where clearing members, known
as FCMs, guaranteed the financial performance of their clients and the
ecosystem itself.
---------------------------------------------------------------------------
\[1]\ http://www.g20.utoronto.ca/2009/2009communique0925.html.
---------------------------------------------------------------------------
Under this model, the clearing house is responsible for calibrating
risk management standards of the system and must ensure that sufficient
financial resources are collected under ``extreme but plausible''
scenarios to withstand market shocks. To meet collateralization
shortfalls, clearing houses form a ``waterfall'' in their rulebooks and
require their members to post capital to a ``default'' fund. To the
extent a member fails to meet its obligations during an insolvency, the
clearing house may use that member's default fund contribution to
offset collateral shortfalls. However, if deficits remain after
applying these funds, the CCP will utilize the other members'
contributions (after exhausting limited proprietary capital known as
``skin in the game'') even when those members may have nothing to do
with the default. Though market participants universally agree that
initial margin levels should be sufficiently calibrated such that a
``defaulter pays'' model prevails, the mutualization and socialization
of risk of the existing paradigm is real. As recently as 2018, clearing
members were assessed millions in losses [2] after a power
trader failed to meet his obligations on NASDAQ OMX.\4\
---------------------------------------------------------------------------
\[2]\ https://www.reuters.com/article/us-nordic-power-nasdaq/
nordic-power-traders-loss-costs-nasdaq-and-members-114-million-euros-
idUSKCN1LT28G.
\4\ Lefteris Karagiannopoulos, ``Nordic power trader's loss costs
Nasdaq and members 114 million euros,'' Reuters, September 13, 2018.
---------------------------------------------------------------------------
Though one would think that FCM businesses would thrive under a
regulatory mandate, the number of FCMs has materially decreased over
the last 2 decades from a high of 188 in 2004, to just 61 by 2022.
Meanwhile, segregated client assets have skyrocketed, rising from about
$60bn in 2002 to more than $470bn today.
Figure 1: Segregated Client Funds \5\ versus FCM Count (2002-2021)
---------------------------------------------------------------------------
\5\ Segregated Funds include segregated futures, foreign futures
and cleared swaps. Source: CFTC.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
The obvious result of these two trends is concentration of risk,
leaving market participants with fewer choices to access futures
markets to hedge their risk. Today, the top five members control the
preponderance of the segregated collateral pool.
This consolidation and subsequent risk concentration have been
caused by a number of factors:
1. Regulations including those introduced by the Dodd-Frank Wall
Street Reform and Consumer Protection Act resulted in
material fixed costs that uniformly apply to all clearing
members, regardless of size or activity level.
2. A loss of interest income due to macroeconomic and capital
optimization factors related to Basel [3]
capital rules, including the Supplemental Leverage Ratio
(SLR), negatively impacted FCM economics.
---------------------------------------------------------------------------
\[3]\ https://www.risk.net/regulation/5307456/repeal-cem-reform-sa-
ccr.
3. Increased third party fees, including fees to maintain legacy
technology infrastructure further suppressed FCM
---------------------------------------------------------------------------
profitability.
4. With sizable fixed costs and low profit margin, the only solution
was to drive scale by acquiring market share. Smaller FCMs,
unable to achieve the scale needed to achieve
profitability, simply could not compete with larger players
and shuttered their businesses.
The FCM community has been left in a bind. Dependence on decades
old, notoriously archaic technology that is only capable of delivering
slow and lumbering batch cycles has resulted in a mismatch of
collateral flows and an accumulation of risk. Coupled with initial
margin models that often fail to sufficiently cover this concentrated
risk, the legacy clearing model leaves FCMs facing the potential of
material stress losses at a time when profitability is challenged at
best. The legacy derivatives collateralization cycle functions as
follows:
1. Client executes a derivative (and the FCM guaranties against the
risk of default) on trade date ``T''
2. Clearing house calls FCM for collateral (typically on T or early
( 2 a.m.) on T+1)
3. FCM issues margin call (typically before 10am, T+1)
4. Clients pay margin obligation by the end of the day (T+1)
During periods of stress, it is common for clearing houses to
justifiably call their members for incremental intraday collateral
(which generally must be met in 1 hour according to clearing house
rules), leaving unsecured FCMs scrambling to recoup collateral from
their clients, often an impossible task. Unfortunately, this laborious
process simply does not reconcile with the speed and volatility of
crypto-derivative markets.
Against the backdrop of these operational shortfalls, acute under-
collateralization continues to plague FCMs. Margin breaches are defined
when intraday price movements cause the actual marked-to-market
exposure in the account of a clearing member to exceed the initial
margin held. Based on public statistics,[4] the derivatives
markets have experienced thousands of margin breaches in recent years,
including a $2.01bn margin breach in Q1 2021.\6\ Volatile markets often
cause these breaches, leaving FCMs unsecured and undercompensated for
the risk they assume from their clients.
---------------------------------------------------------------------------
\[4]\ https://www.fia.org/margin-
breaches#: :text=This%20visualization%20shows%20data%20
on,held%20against%20that%20member%20account.
\6\ Alessandro Aimone, ``GameStop frenzy triggered $2billion margin
breach at OCC,'' Risk Magazine, July 27, 2021.
---------------------------------------------------------------------------
In an era where profitability requires scale and scale attracts
meaningful risk, leading to questionable financial returns, FCMs are
left in a predicament. Smaller clients, who do not offer scale and only
transact to hedge a few times per year, are either left on the
sidelines unable to find an intermediary or are subject to substantial
minimum fees, effectively pricing them out of the market. For most
FCMs, the scalable clearing of digital asset derivatives--even if
clearing houses offered comprehensive product coverage--is out of the
question because the accumulation of risk due to their batch processes
cannot keep pace with 24 hour, volatile cryptocurrency markets.
Moreover, Basel regulatory capital proposals [5] and
internal risk limits leave bank FCMs simply unable to expand into this
new asset class, leaving clearinghouses with little incentive to
innovate. For this reason, it's no surprise that the vast preponderance
of digital asset derivatives activity has largely migrated overseas in
markets where there is no requirement for intermediaries.
---------------------------------------------------------------------------
\[5]\ https://www.bis.org/bcbs/publ/d519.pdf.
---------------------------------------------------------------------------
While legacy FCMs continue to retrench, a new model is emerging
that could revitalize the domestic derivatives industry, especially for
digital asset derivatives, and give U.S. persons the risk management
capabilities they deserve. New technologies now enable near real time
risk management and collateralization capabilities--without the need
for an intermediary. Calibrated correctly and fairly, a non-
intermediated market structure can deliver a true ``defaulter pays''
model, by solely relying on the assets of the risk takers and clearing
house, itself, eliminating legacy conflicts of interest, socialized
losses and ushering in a new era of responsible innovation.
End-users stand to benefit. Incremental competition will introduce
new choices and capabilities to hedge risk, while lowering costs. The
operational inefficiencies of the current model are costly (e.g.,
contingent liquidity funding due to the collateral timing mismatch is
expensive), and the direct model will eliminate intermediary fees
altogether. In theory, real time risk management should also unlock
capital efficiencies across the system, since more collateral is needed
to secure and backstop a system that depends on a daily batch process
to collateralize--especially for volatile markets. Finally, billions of
dollars in member capital, which would need to sit idly in default
funds socializing risk in the system, could be redeployed back into the
economy because in the direct model, the responsibility for
collateralization sits with the risk takers, and is supported by the
resources of the clearing house, itself.
Competition is healthy for markets, and I believe that the direct
model offered by FTX's proposal will actually benefit the legacy FCM
community. In a world where direct and intermediated markets coexist,
FCMs will be able to identify new opportunities to deliver operational
and capital efficiencies for their clients, perhaps providing agency
services to prevent liquidations, while continuing to offer high touch
service to top institutional clients.
In conclusion, I fully support FTX's application to offer a direct
clearing model for digital asset derivatives. It is time for the United
States to revitalize its derivatives markets by embracing the promise
of new technologies to reduce systemic risk through real time and
surgically precise collateralization. Direct access will foster a more
inclusive and liquid derivatives market in the United States finally
giving investors the ability to access derivatives markets to hedge
their risk. With the appropriate regulatory guardrails in place, this
model will result in a more resilient, efficient and dynamic system.
Christopher R. Perkins,
President, CoinFund.
The Chairman. Thank you very much, and I want to thank all
five of our very distinguished witnesses on the panel for your
excellent testimonies.
At this time, Members will be recognized for questions in
order of seniority, alternating between Majority and Minority
Members. You will be recognized for 5 minutes each in order to
allow us to get as many questions in as possible. And as I
always say, please keep your microphones muted until you are
ready to ask your question so that we can minimize background
noise.
I now recognize myself for 5 minutes. We all know that
cryptocurrency is a volatile market. We realize that. We
witnessed what has been happening to them over the past few
days on the markets. I want to ask Mr. Lukken, Mr. Duffy, and
Mr. Bankman-Fried this question. And then, Mr. Edmonds, I have
a question for you as well.
First, to the three of you, Mr. Lukken, Mr. Bankman-Fried,
and Mr. Duffy, how in your own words is this proposal not
making an already risky market much riskier for the customer,
particularly in light of what we are seeing and, as several of
you pointed out, the emergence of an eagerness to get into this
market from the public? Mr. Duffy, would you start off?
Mr. Duffy. Sure, I would be happy to start. How is this
adding more risk to the system? Well, the gentleman at the end
of the table said that 90 percent of the crypto market is going
overseas. I would assure you that 90 percent of the losses are
also going overseas with them and that is not a bad thing from
our perspective of our participants being protected from this.
Listen, these asset classes are completely different, and I
am not here to discuss the value of crypto one way or another.
I think what is important is the structure that they operate
under. The proposal as put forth is fraught with dangers. The
traditional clearing model that we deploy at CME Group is
something that we are passionate about. And the gentleman
referred to the derivatives industry cratering in 2008 and what
caused that. I assure you, it wasn't listed derivatives
industry. It was levered bilateral derivatives that caused that
collapse. So the risk associated with these products, if not
properly regulated, could be catastrophic not only for the risk
of their products but other products that this application
could be applied to, especially every asset class that CME
trades. So I have grave concerns.
I could talk for hours on this topic, Mr. Chairman. I will
reserve my time.
The Chairman. Yes.
Mr. Duffy. But I think as you deploy this against other
asset classes, that is where the real risks come in.
The Chairman. Thank you. Mr. Lukken, please.
Mr. Lukken. Well, as far as customer protection, I mean,
the FCM over the years has played a critical role in our
ecosystem of making sure that customers are protected, their
funds are segregated, that they are guaranteeing those funds,
they are holding capital in case there is a default. So we have
this layer of protection, as was noted, that helps protect
customers that exist that is being taken out of the system.
So, yes, I think FTX is making the argument that they can
replicate that in other ways through the DCO application, but
we have strong views that there is a reason that FCMs help to
compartmentalize risk away from the CCP. Oftentimes, they are
holding the capital to try to--like a ship. They may be taking
on water, you close the watertight hatch, right, to make sure
the rest of the ship does not go down.
The Chairman. Right.
Mr. Lukken. We think that diversified risk that the FCM
provides is a helpful component of preventing a systemic event
and helping protect customers.
The Chairman. Okay. Thank you so much. And now, Mr.
Bankman-Fried?
Mr. Bankman-Fried. Thank you. I think that this would help
make cryptocurrency markets less volatile and less risky for
exactly the reasons that you guys have pointed out. The fact
that there is no Federal oversight of them today is not good,
and providing that Federal oversight with licensed
cryptocurrency derivatives exchanges would help ensure that
they do meet the standards and safety that we expect.
And I will also say that, as was referenced, financial
crises can be caused by unlisted, untracked contracts done in a
bespoke manner where there is no central clearing. That is
another reason that we are excited to bring this under CFTC
jurisdiction with CFTC oversight of the clearinghouse.
The Chairman. Well, thank you. I just have a question to
Mr. Edmonds. Could you comment, Mr. Edmonds, on how the
clearinghouse model proposed by FTX stands up to international
regulatory standards such as those required to maintain
equivalency with the EU and the UK markets?
Mr. Edmonds. Mr. Chairman, the EU and the UK both have made
the statement if it is the same risk, it is the same rules. And
so I believe what you are asking for is you are asking me to
determine what happens if the application is approved under the
current rules. We--and Mr. Duffy has said this in his
testimony--don't believe it can be approved in its current form
under the current rules, so we would get to a point where it is
not the same rules for the same risk. And I think that is the
concern of the international community.
The Chairman. Thank you very much. And now I recognize the
Ranking Member, the gentleman from Pennsylvania, my friend, Mr.
Thompson.
Mr. Thompson. Mr. Chairman, thank you. Thank you to all of
our witnesses.
Mr. Bankman-Fried, thank you for speaking with us today
regarding your proposal that is before the CFTC. And I know the
CFTC's comment period closed yesterday and it is holding a
roundtable in a couple weeks. And its experts will give careful
consideration to all the information provided. I appreciate you
taking the time to provide some additional color on your
proposal and to address some of the concerns expressed by some
market participants. Could you please tell us why the markets
should deviate from the well-tested approach to clearing
employed at CME or ICE, for this virtually unknown approach and
why take the risk?
Mr. Bankman-Fried. Thank you. So, first of all, I think
that there should be diversity of risk models allowed so long
as they are all deemed suitable and consistent with regulations
by the CFTC. I personally believe that our application is
consistent with the current rules and regulations of the CFTC,
that there is no required rulemaking or changes for it, and
that should the CFTC deem it to be appropriate and then it
would not require any changes.
I would also like to say, in terms of why I think this is
worth doing--and again, I don't think that we should be banning
other risk models here. I don't think we should be stopping
other exchanges from being able to operate. I think we should
have healthy competition here. I think that it has numerous
advantages. In our risk model the collateral is held directly
at the clearinghouses, the collateral for all the positions.
There is CFTC oversight of that collateral, and it is
guaranteed to be there to not be used for anything else, to be
segregated, and that is a difference with traditional models.
It provides an extra layer of security and guarantee of the
assets backing these positions.
I also think that having a faster risk model is appropriate
for digital assets. This means that rather than having to
choose between liquidating a position too early out of fear of
what could happen over the next 2 days or exposing yourself to
systemic risk like we saw with LME, that the risk model can
make a real-time, more precise judgment about the health of the
position. I think both of those are going to be healthy, and I
think they particularly fit the digital asset ecosystem.
I will note that we do not have any plans to launch
nondigital asset contracts anytime soon through this model. And
I think those are both advantages. I think the equitable access
is an advantage. I think the open and transparent market is an
advantage. I think that all of those have real advantages. And
again, I don't believe that this is inconsistent or new from
the perspective of the rules and regulations that it would
require, and many of the people in the industry, including many
of those on this panel today, are currently listing products
with many of these properties.
Mr. Thompson. Okay. Thank you. Mr. Perkins, in your
testimony you highlight some of what you perceive as
inefficiencies in the existing intermediated clearing approach.
Besides a wholesale adoption of the FTX approach to clearing,
what aspects of their proposal do you think today's
clearinghouses should consider adopting?
Mr. Perkins. Thank you, sir, for the question. In today's
model there is a mismatch between 24 hour/7 days markets of
cryptocurrency with the way we collateralize today in the
futures markets. So essentially clients put on risk, we meet
those obligations to the clearinghouse immediately, and then we
have to wait to the following day to receive that collateral
back from our clients. That doesn't reconcile with a highly
volatile market that is moving, and so therefore, we are much
better positioned from a systemic risk perspective if we are
able to meet that collateralization in real time.
And so the inefficiency that I am highlighting is the
inefficiency of collateralization today that the FTX model
addresses. And frankly, I don't see a way that the current
intermediated model can deliver inclusion and provide services
for crypto derivatives because of this collateral mismatch.
Mr. Thompson. Thank you. Mr. Edmonds, in your testimony you
noted that innovation cannot supersede the primary functions of
futures markets for price discovery and hedging, but even today
some innovations, most take for granted like electronic order
books, algorithmic trading. My question is what is the line
between bad innovation and good innovation?
Mr. Edmonds. Well, I think the bright line is where does it
fit within the regulatory construct? And the markets look for
certainty at the end of the day. Users of the markets look for
certainty at the end of the day. And so having potentially two
standards that may develop over time creates uncertainty in the
market. And I think if you look to some of the volatility
around the crypto world as it sits today, it is a lack of
certainty of what happens in different jurisdictions and how
folks review that. So for me it is about how do you divide the
world of regulation to make sure that those who are going to be
in the game understand the rules of the game at all times.
Mr. Thompson. Good. Thank you. Thank you to all the
witnesses and thank you, Mr. Chairman.
The Chairman. Thank you, Ranking Member.
And now the gentlewoman from North Carolina, Ms. Adams, who
is also the Vice Chair of the Committee on Agriculture, is
recognized for 5 minutes.
Ms. Adams. Thank you, Chairman Scott, Ranking Member
Thompson, for hosting the hearing today. Thank you to the
witnesses. I appreciate all of your diligence here. I want to
thank the committee staff.
I have heard many interesting perspectives on
cryptocurrency today. Some say it needs to be defined before it
is regulated, crypto or security or derivatives. Crypto, they
also say, does it need an independent financial regulator or is
the existing Commission sufficient? So let me ask Mr. Lukken.
Your organization, the Futures Industry Association, represents
over 80 percent of futures commission merchants today. If
accepted, FTX's application would alter the role of U.S.
registered FCMs proposing leverage without intermediaries.
Chair Behnam has opened the floor for discussions on crypto
derivatives. So what will happen if the model is applied to
other commodity markets, Mr. Lukken?
Mr. Lukken. Well, I have indicated that it needs further
analysis because it is uncertain whether the customer
protections that are afforded to commercial hedgers would be
the same under this model. In addition, I think that the risk
model, which is used to auto-liquidating small retail
cryptocurrency products, once you get into large commercial
hedgers that need to get into our markets and hold large
positions to make sure that their agricultural products are
hedged, that they are managing price risk, trying to auto-
liquidate those types of positions potentially could have
disruptive effects on the marketplace and not off market but
those other positions will have it in the central marketplace.
So again, we want to understand better how this might work for
commercial hedgers. It is one thing for a snake to swallow a
mouse and digest it. It is another thing for a snake to swallow
a pig. It is going to have a different----
Ms. Adams. Okay. So let me move on. I have some more
questions. But let me just ask you and follow up. Will FTX and
similar players be expected to shoulder the systemic risk that
clearinghouses were traditionally responsible for? Mr. Lukken?
Mr. Lukken. I am sorry, repeat the question.
Ms. Adams. Will FTX and similar players be expected to
shoulder the risks that clearinghouses were traditionally
responsible for?
Mr. Lukken. Yes, and that is one thing we like about the
FTX proposal is they have put up their own skin in the game
into their default fund and they are willing to take that on.
In doing so, however, they have wiped out a significant portion
of the FCM capital that is held against the positions as well.
Ms. Adams. Okay. So let me ask Mr. Bankman-Fried. If your
company's proposal is accepted, can you tell us how you plan to
protect consumers who use your platform?
Mr. Bankman-Fried. Absolutely. Thank you, Congresswoman.
We, to start off with, have all of the customer protections
that are typically found in DCOs and DCMs in addition to all of
the protections that are typically found in FCMs because we
acknowledge that because there is a disintermediated option, we
have a duty to provide all of those controls. And so we have
done deep analyses both of the rules and regulations and of
existing FCMs to ensure that we have similar sets of
transparency, of suitability, of disclosures.
And, when you bring up the anti-financial crimes
perspective, we are subject to Bank Secrecy Act level KYC on
FTX U.S. derivatives as well and have a standard know-your-
customer anti-money-laundering policy both for users and for
all deposits and withdrawals of both cryptocurrencies and fiat
currencies that go through the platform.
Finally, we will be providing transparency around any
assets, any digital assets that we do list on the platform in
line with what we would expect would be helpful for consumers
going far above what the current regulations require because we
think that that is appropriate.
Ms. Adams. Okay. Thank you. Mr. Duffy, let me ask you. We
cannot doubt that the skyrocketing growth seen in decentralized
finance is linked to its accessibility. And so as an exchange,
FTX offers equitable access and a current model that gives us
data for free. What is your philosophy on that sort of user-
friendliness, and how does your company prioritize financial
inclusion?
Mr. Duffy. Yes, it is an interesting question and Mr.
Bankman-Fried is commenting on things that are outside of his
application so I can only comment on his application. And when
we talk about----
Ms. Adams. I have 3 seconds.
Mr. Duffy. Well, then----
Ms. Adams. I am about out of time.
Mr. Duffy. We have equitable access to everybody, ma'am.
That is about what I can tell you. The model has worked for
hundreds of years. We have amended it throughout time, and it
continues to be a time-tested model.
Ms. Adams. Thank you so much. Mr. Chairman, I am out of
time. I yield back. Thank you.
Mr. Duffy. Yes, we don't accept credit cards, though, like
they do.
The Chairman. Thank you very much. And now the gentleman
from Georgia, Mr. Austin Scott, is recognized for 5 minutes.
Mr. Austin Scott of Georgia. Thank you, Mr. Chairman. And
at the outset I want to say a couple things. One is I am, and I
believe the majority of my constituents are, more concerned
about the price of food and energy than they are about the
price of digital currencies. I don't mind telling you I don't
understand the whole crypto thing. There is a tremendous amount
of mining that goes on in the area that I represent. I do not
understand why it consumes so much energy or what they are
actually mining. But I do think the CFTC roundtable May 25th is
going to provide a lot more information and a lot more
understanding for all of us on the Committee, as well as those
who will be directly impacted by this.
For me, the issue is--and I majored in risk management and
insurance and actually had my Series 7 before being elected to
Congress. It is: does the risk outweigh the return? And I look
at CoinFund and I go to your webpage and it says disruptive
technology requires disruptive investors. And my concern--and I
can't see Mr. Bankman-Fried--is does this disrupt the markets
as a whole? I honestly don't think it is necessarily bad if the
majority of crypto is traded overseas. I just don't. Now, if
coin markets and energy markets moved overseas, that would be a
significant concern for me.
But my question for you, Mr. Bankman-Fried, is that, as I
understand from your comments, FTX.com has been operating
internationally and you allow this model overseas, is that
correct?
Mr. Bankman-Fried. Yes, that is correct.
Mr. Austin Scott of Georgia. So can a U.S. investor not
operate on your platform overseas?
Mr. Bankman-Fried. That is correct. They cannot. We have a
separate platform for U.S. investors that does not currently
have a margin and futures product on the overseas application,
which is licensed by a lot of the world today and overseen by
many of the top financial regulators. We do offer a very
similar product to what we are proposing here.
Mr. Austin Scott of Georgia. But U.S.-based investors
cannot transact through----
Mr. Bankman-Fried. That is correct.
Mr. Austin Scott of Georgia. Okay. That was one of the
questions that I had. But, Mr. Edmonds, in your testimony you
expressed concern that the proposal if approved could
ultimately be applied to traditional agriculture and energy
markets, and that is one of my primary concerns. You also
stated innovation cannot supersede the primary function of
futures markets for price discovery and hedging, and I agree
with that statement. But can you elaborate on how you see this
proposal potentially affecting markets and the farmers that I
represent who use them. Especially in today's day and time with
fertilizer and other input costs as high as they are, I am
extremely concerned about this.
Mr. Edmonds. Yes, I believe it raises the cost of their
operation at the end of the day if you were to apply this model
to those markets because you are going to pre-fund. And today
when an FCM sits in the middle of the transaction and
represents the end client to the exchange and clearinghouse,
they have a very wide-ranging relationship with the end-user at
the end of the day. They are looking at much more than just an
individual transaction. In the FTX model, as it is proposed in
the application, it is an individual transaction. And when you
are under equity at that point you face the liquidation that
Mr. Duffy and others have commented on here.
Mr. Austin Scott of Georgia. Mr. Bankman-Fried, do you have
anything to add to that? I mean, the energy and the commodity
markets are my primary concern.
Mr. Bankman-Fried. Yes. So, first of all, I completely
acknowledge that this model would require further analysis for
some asset classes before we would want to launch any products
there. I believe the same would be true of what the CFTC would
want. We are not planning to be launching energy products
anytime soon with this model. We are going to be starting off
with just digital assets because, as you say, when you look at
assets that are not typically traded 24/7, assets that have
physical settlement in physical warehouses, assets with
different types of market participants, that does involve a
further conversation.
Mr. Austin Scott of Georgia. But your application is not
limited to margin digital commodities is my understanding.
Mr. Bankman-Fried. We are not intending to list them. I do
not believe the CFTC would want us to list nondigital assets
out of the gate and we----
Mr. Austin Scott of Georgia. Then why does your application
allow for it?
Mr. Bankman-Fried. That is how standard applications are,
but if this is something that you don't trust the CFTC to
exercise their discretion on, we could look into writing some
time period during which we could not do that in our
application. Like that is the kind of thing we would be open
to. Like I am not lying to you right now. I really do mean
this. And I trust that the CFTC will enforce that as well. But
you could look into other controls on this.
Mr. Austin Scott of Georgia. You said time period. What
about a permanent restriction?
Mr. Bankman-Fried. Why would you think that there should be
a permanent restriction? As I understand it, you are asking
questions about the suitability, which I think are appropriate
and would require further discussion. You can imagine something
where it would require a further review by DCR in order to list
them, which I think would be potentially appropriate.
Mr. Austin Scott of Georgia. My time has expired. I look
forward to the roundtable, Mr. Chairman.
The Chairman. Thank you very much, Mr. Scott. And now the
gentlewoman from Connecticut, Mrs. Hayes, who is also the
Chairwoman of the Subcommittee on Nutrition, Oversight, and
Department Operations, is now recognized for 5 minutes.
Mrs. Hayes. Thank you, Mr. Chairman. And thank you to our
witnesses for being here today. This is a very interesting
topic for me as an educator. I am always interested to learn
new things. And as a legislator, I realize that we cannot put
our head in the sand and not evolve as markets are evolving and
our economies are changing. So this is something that we really
need to have these thoughtful conversations about, and we need
to be doing that right now, not after it is too late.
The digital asset market is expanding. In fact, in my state
last year a firm was opened in Connecticut. So the
cryptocurrency sector is emerging. Mr. Bankman-Fried, your
proposal supports the idea of removing intermediaries as a
means of democratizing the digital currency market. I am
concerned that removing intermediaries from the equation could
create an opening for fraud and abuse, particularly towards new
customers that are entering the digital asset market for the
first time. While these assets could present a path towards
building wealth for some, I am concerned that the volatility of
the market could lead to average customers losing even more,
especially without proper oversight.
So my question is how do you respond to the assertion that
the elimination of capital investment, combined with your
proposal to self-fund your guarantee fund will result in a lack
of incentive for participants to mitigate their own risk?
Mr. Bankman-Fried. Thank you for the question. There are a
few different answers. To one of those it is absolutely
important that we still have protections against fraud, against
scams, and some of those protections are often provided by
intermediaries like FCMs. To the extent that they are, it is
absolutely incumbent upon our platform to have the same
protections. We do have those. That is a piece of our proposal.
And the entire platform is under CFTC oversight, and they would
be enforcing that that would be true as well, that all of the
necessary customer protections that typically exist were in
there.
Talking about the point you have raised about the capital,
in addition to the first line of defense being our own skin in
the game rather than our customers' or intermediaries' skins in
the game, in our model the initial margin for the positions is
posted directly to the clearinghouse. And so in addition to
that guarantee fund, there is a lot of capital which is held
directly with CFTC oversight, segregated accounts for margin
for the customers' positions, which also provides a capital
backstop for them and does not require trust on that side.
I will just say that for institutions that do want to
access it through intermediaries, as I imagine a number of them
would, we are absolutely open and excited to work with FCMs on
that front for them to fill a role as intermediary, especially,
for their existing clients and other clients who want their
services, as many do, and that when you talk about extending
credit, that is something that an FCM could come to an
agreement with, with their clients.
Mrs. Hayes. Thank you. That is quite an optimistic
viewpoint.
Mr. Duffy, do you believe that this model would be secure
enough for retail investors to build wealth, or do you believe
conversely that the increased market volatility caused by lack
of backstops will endanger their investments?
Mr. Duffy. It is really difficult for me to predict what
the retail investor will profit or not profit because you have
seen a lot of them make a lot of money. And I like to remind
people that I have seen a lot of people make a lot of money
being wrong to market, and I have seen a lot of people lose a
lot of money being right to market. So it is all a question of
timing, so it is really difficult to make that assertion.
I am concerned about the overall proposal. Now, Mr.
Bankman-Fried continuously says that he will not apply this to
other products. That is absolutely irrational for him to have
the ability to apply to a single asset class while the rest of
us sit on the goal line while he is at the 50 yard line and he
decides to deploy it in other asset classes and we don't get
the ability to do it.
There are a lot of problems with this, but the educational
knowledge that needs to go to the retail investor I think has
been completely underserved. CME Group has been an
institutional participant for many, many decades now, and we
continue to do it. But we do a lot of education with the retail
investor. We don't believe in the app model with a credit card,
sign up, and good luck to you. We don't think that is a process
that makes a lot of sense for retail investors.
I made reference earlier, there is a publicly traded entity
called Coinbase that you all may have noticed, these people are
down 90 percent in value in 6 months, so they are all based off
cryptocurrencies. So those participants are retail owners of
that firm, not institutional.
Mrs. Hayes. Thank you. My time has expired, but I will be
submitting an additional question for the record because we
heard from Chairman Rostin Behnam that they would need to
expand their budget and their capacity to oversee
cryptocurrency. I have some serious concerns about what that
looks like, but I will submit that question for the record.
Thank you, Mr. Chairman. I yield back.
The Chairman. The gentleman from Arkansas, Mr. Crawford, is
recognized for 5 minutes.
Mr. Crawford. Thank you, Mr. Chairman. Thank you all for
being here today.
Kind of following on with what my colleague, Mr. Austin
Scott, was discussing with regard to agriculture producers, I
mean, this is the Agriculture Committee, so if we are not
concerned about ag producers, we are on the wrong committee. So
I want to put it in the context of how this might potentially
impact the ag markets. For example, I mean, the thing that--I
talk to farmers all the time. You plant wheat, you are long
wheat. You got a position in the market. You are long wheat.
There is an underlying fundamental to that. You plant cotton,
you are long cotton. It is just how it is.
I am really struggling to understand--and in all
earnestness, what is the underlying security of Bitcoin or any
other cryptocurrency in the context of other commodities that
make this--just as an example, one cryptocurrency in 24 hours--
I think it was yesterday--lost 97 percent of their value in 24
hours. So I want to be forward-thinking. I want to be a modern
guy and try to understand crypto, but I am really struggling
with it. I am really struggling with it.
And my concern is that farmers are looking at this and go,
oh, heck, if we were ever going to try to incentivize farmers
to get in the market and avail themselves of this fundamental
risk management tool that we call the commodities futures
market, I don't see this as an incentive. That is my concern.
Am I missing something here?
Mr. Bankman-Fried, I know that the proposal is only limited
to Bitcoin and Ethereum futures and I get that, but I am
concerned about the precedent that we are setting here. And so
I guess my question is would approval of the proposal open the
door for other exchanges to use this model for traditional
futures contract like I mentioned, cotton, corn, wheat, other
ag commodities? And what would prevent broader application of
this sort of proposal beyond the current intent?
Mr. Bankman-Fried. The CFTC has oversight of all of the
clearinghouses and exchanges and would have oversight of any
new risk model submissions and could deem those inappropriate
if it believed that they were so. I think that if you have
feedback to give to the CFTC that you think is important to
give to them on what they should and should not deem
appropriate, I suspect that they would probably welcome that. I
don't see how that is relevant to our application. That is not
what we are doing. But, I do think that would be appropriate to
have a longer period of discussion on agricultural commodities
and risk models prior to implementing any new models for them.
Mr. Crawford. I got you, Mr. Duffy. I just indicated Terra
as one example, a 97 percent loss in 24 hours, Bitcoin down 25
percent in the last 30 days. Do these crypto market trends
concern you with what we are discussing today specifically as
it pertains to market risk and asset volatility?
Mr. Duffy. So let me make a couple comments. First of all,
Mr. Bankman-Fried has continually said that it would be up to
the Commission to do this, but at the same time he has said to
this body over and over again he has not eliminated, when Mr.
Scott pressed him, would he not deploy this model into other
asset classes, which he would. And if he doesn't, others would
because it is a cheap model to do because the oversight goes
down.
Second, on your first question about what is a
cryptocurrency worth if it goes down? It is worth zero. If corn
goes to a certain price, you have an ear of corn. That is as
simple as it comes. You have nothing when you have
cryptocurrency that goes to zero.
The risk of this going into other markets is extremely
detrimental. We have two countries fighting each other right
now--and I thank the gentleman for his service at the end of
the table. We have two countries fighting that have \1/3\ of
the wheat production that is going to be off the market. Don't
worry about other products. You better worry about--the
questions that need to be worried about, are we all going to be
able to eat? And we need to have sound, prudent risk
management. And I cannot be forced into a model that I will
have no choice to deploy if in fact the CFTC goes down this
path because I will deploy it because somebody else will. I
have a fiduciary obligation to my shareholders and my clients
to do certain things, and I will have no choice. Otherwise, I
will be out of business. This is a proposal that is fraught
with danger, and I have outlined that in my testimony. The
application that has been put forth to the CFTC is completely
different than some of the comments that are being said at this
panel today. So I can only comment on what is out there. He has
not eliminated other asset classes from his application to be
clear.
Mr. Crawford. Thank you. The volatility seems to be a
recurring theme, and my concern is that this volatility is
exacerbated by inflation, and inflation is exacerbated by this
market volatility. Is that a fair statement?
Mr. Duffy. It is a fair statement to some, and others would
disagree with you, but I happen to agree with you.
Mr. Crawford. All right. Thank you. I yield back.
The Chairman. Thank you, Mr. Crawford.
And now the gentlewoman from Ohio, Ms. Brown, is recognized
for 5 minutes.
Ms. Brown. Thank you, Chairman Scott and Ranking Member
Thompson, for holding this hearing today. And thank you to our
panel today. We appreciate hearing from all of you.
I believe that, as our country modernizes and evolves, our
financial institutions should also. In addition, ingenuity when
it comes to market access and clearinghouse models is something
that I have been pleased to see CFTC prioritized. However, this
cannot be done at the expense of consumer protection.
Mr. Bankman-Fried, how does FTX plan to strike the right
balance between offering innovative financial products that may
expand economic opportunities and eliminate barriers to entry
for investors while still ensuring consumer protections are
maintained?
Mr. Bankman-Fried. Thank you for the question. We will have
in addition to all of the customer protections that exist on
traditional models, on traditional futures exchanges and
intermediaries, additional suitability tests, transparency
about the products to ensure that customers are fully informed,
fully aware of what they are doing, that they have an
understanding of these assets and these products. We are going
to be going through voluntary disclosures and analyses that
will be made public of any assets that are listed on the
platform and make sure that those are obvious to users of the
platform in addition to the mechanics of the platform on it.
I think that it is important to be able to offer equitable
access to investors, as you said, that affords equitable
opportunities to accrue wealth, but I also think that it is
important that people are extremely aware of what they are
trading, of how it works, of its mechanics, that they are not
accessing things that they do not at all understand and that
they are accessing products that have liquidity support, the
demands on it. So I think it is extremely important. We spent a
lot of time on it, and if it is helpful, we are happy to follow
up with you as well and send over what some of those materials
that we have are on the transparency and disclosure and
suitability.
Ms. Brown. Thank you. Because I consider consumer education
to be a critical segment of consumer protection, investors
should have access to the necessary tools to make informed
decisions about their financial wallet.
Just to kind of expand on that point, Mr. Bankman-Fried,
how does FTX ensure that customers have an appropriate
understanding of derivatives trading before engaging in trades
on the FTX platform?
Mr. Bankman-Fried. Yes, absolutely. So in addition to
having our entire rulebook, all of the market data, and
everything made publicly available, before you can access any
trading on the platform, you have to go through a walk-through
of the FTX US Derivatives platform that explains how every
piece of it works, that explains the products you would be
trading, and for smaller users a test that tests your knowledge
of how those products work to ensure that there is basically
forced disclosure, transparency, and checks that people
understand the mechanics of the products and of the platform.
Again, super, super happy to follow up, happy to have a further
discussion about this and show you the materials that we have
on that.
Ms. Brown. Thank you. Same question to you, Mr. Perkins.
How does Coinbase ensure that customers have an appropriate
understanding of derivatives trading before engaging in trades
on your platform?
Mr. Perkins. Thank you, Congresswoman. I am with CoinFund,
and we do not provide access for customers. We are not an
exchange. We are an investment management firm, so maybe I can
follow up with you offline on that.
Ms. Brown. All right. Well, thank you, Mr. Chairman. And
with that, I yield back.
The Chairman. Thank you. And now the gentleman from North
Carolina, Mr. Rouzer, is recognized for 5 minutes.
Mr. Rouzer. Thank you, Mr. Chairman. This is a very
interesting subject. I am pleased to have everybody here.
Walt, great to see you again. Walt and I fought battles in
a previous life as Senate staffers years ago, and really great
to see you.
Mr. Duffy--and I don't have any pre-bias with any of the
questions that I have. I am just trying to understand the
situation a little better. But my understanding is the CME
Group proposed its own direct clearing model in 2016. What
problems were you hoping to address in the futures market at
that time, and do those problems still exist today?
Mr. Duffy. It is interesting because I think people believe
that I am opposed to the direct clearing model. I have never
said I was opposed to a direct clearing model. I said I oppose
the FTX's direct clearing model. So I want to make sure that we
are crystal clear on that. The model that you are referring to
in 2016, as you are I am sure aware, the illustrious Federal
Government's and Federal Reserve's central banks around the
world decided to come up with what is called the leverage ratio
that made it extremely punitive for banks to participate, and
their capital balance sheets were being consumed by the
leverage ratio under Basel III. So what we were trying to help
accomplish was to get clients to be on CME's books directly but
still have to adhere to all the rules and procedures and
protocols of the futures commission merchants at the same time.
We eliminated that program for a couple reasons. One, the
CFTC asked me to for starters. That is who told me to get rid
of the program. Second, we got rid of it because they changed
the leverage ratio on Basel III, which made some of the banks a
little bit more compelling to do customer business. But it was
a very punitive time in the leverage ratio if you recall back
in that time period of 2016. That is the reason why we
abandoned the direct participant model.
I am not opposed to it, sir. I am opposed to this
application for a lot of reasons, because it does not conform
to the existing Commodity Exchange Act of 2000.
Mr. Rouzer. I understand. Thank you. Mr. Bankman-Fried--and
you may have testified on this earlier and I just missed it--
but what has been the experience in other countries? How many
other countries have authorized----
Mr. Bankman-Fried. Yes, we are working with regulators in a
large number of countries across the globe. On our platform we
are licensed and regulated in a number of them, including
Japan, Switzerland, European Union, Australia, and others. We
have had productive conversations with a number of them. And, I
think that they have, obviously, I will let them speak for
themselves; but, they have become comfortable with the model as
it operates.
The model that we would be proposing for FTX US Derivatives
is a more conservative model than what we operate overseas. I
think that it has provided a large number of helpful risk
features and safeguards on the product. We comply with anti-
money laundering, know-your-customer standards globally, and
are helpful wherever we can with regulation law enforcement.
So, I look forward to working with the CFTC to continue to dive
into our application and ultimately come to the judgment that
they think is appropriate.
Mr. Rouzer. Mr. Lukken, do you believe that your members
might find it attractive to participate in an exchange that
does not charge for data, connectivity, or to require
contributions to the clearinghouse guarantee fund?
Mr. Lukken. Yes. I think FCMs over the years have indicated
that a certain amount of regulatory data is necessary for the
risk management functions that they provide. So getting access
to that data in cost-effective ways is very important for the
downstream market users of that data. So that is certainly an
innovative thing that FTX is doing, as well as an appropriate
amount of skin in the game in the capital fund, the default
fund.
Mr. Rouzer. Do you think two exchanges controlling 97
percent of U.S. futures trading volumes is a competitive
market?
Mr. Lukken. Is that to me? We would love to see more
competition. I mean, that is really--but this is a scaled
business. We understand that. It is a volume business, and so
the DNA of our industry is that liquidity comes to a few
exchanges. But we are always looking for new exchanges to
complete globally and make sure that everybody is checked in
the system and make sure that prices are fair and products are
offered.
Mr. Rouzer. Yes, I guess my only final comment in the last
15 seconds is I think crypto is here to stay. I think America
needs to be on the forefront of it. A number of us are quite
concerned about our debt as it relates to--or at least I am
very concerned about the debt as it relates to our ability to
keep the dollar as the reserve currency of the world. So I do
think that moving forward we have to be very thoughtful about
this subject area because I think it has real long-term
implications. Mr. Chairman, I yield back.
The Chairman. Thank you. Now the gentlewoman from New
Hampshire, Ms. Kuster, is recognized for 5 minutes.
Ms. Kuster. Thank you, Mr. Chairman. I appreciate the
opportunity to have this conversation, and I agree with my
colleague that crypto is likely here to stay, but it is very
complex and we all need to have a good understanding of it.
The Commodity Futures Trading Commission is weighing this
FTX application, and I think it is important for Congress and
the public to understand the context here as fully as possible.
And, Mr. Chairman, I would like to enter for the record an
article in today's Forbes and in many, many media
organizations. The title is, $1 Trillion Crypto Meltdown-Huge
Crash Wipes Out The Price Of Bitcoin, Ethereum, BNB, XRP,
Cardano, Solana, Terra's Luna And Avalanche. And it goes
through all the rest. So obviously there is some volatility
here that we need to understand. I appreciate the witnesses
being here to walk us through it.
The Chairman. Yes, so ordered.
[The article referred to is located on p. 199.]
Ms. Kuster. Thank you. It is clearly a growing financial
field and important for American consumers to have access and
to understand the crypto marketplace but also the level of risk
that they can expect when trading. In my lifetime I have never
read of a $1 trillion meltdown. So FTX's application has
obviously generated a lot of discussion, as evidenced not only
the views we have heard by our witnesses today but the
extraordinary number of public comments that CFTC received
about it.
The factor of the application that I want to focus on first
and foremost for my constituents involves taking intermediaries
out of this clearinghouse model. I know there are certainly
some exceptions, but historically, intermediary stakeholders
have played roles in derivative markets by vetting traders,
assuming some risk, and shoring up the clearinghouse itself in
an event where the clearinghouse's long-term viability is in
jeopardy.
Mr. Duffy, from CME's perspective do you believe that all
moves toward disintermediation in derivatives organizations
create risks similar to those you noted in your testimony
regarding FTX proposal?
Mr. Duffy. I think I understood your question, ma'am, but I
think you--I didn't hear it completely. So why do I believe
what? I am sorry.
Ms. Kuster. That all moves toward disintermediation in
derivatives create risks similar to those you noted in your
testimony regarding the FTX proposal?
Mr. Duffy. No, I mean, here, I think when you look at the
FTX proposal base as what we deploy today, the
disintermediation model that you referred to is a concern. I
said I was not opposed to the direct model, but at the same
time I am not running the lead to charge on disintermediation.
I do believe when you look at margin today, CME has a certain
margin that we charge, but what is really important is the
firms that Mr. Lukken represents also puts a surcharge on top
of that which you would not have in the disintermediated model,
so meaning if I charge $1 for margin, that clearing firm might
charge an extra $2 or $3 to its client, which gives them the
ability to manage their risk. So that is one of the huge
benefits of having the model that we have, so I am not leading
the charge against disintermediation. I don't think it is
appropriate. But at the same time, I have to be prepared to
move our firm forward. So we are looking at innovative ways no
different than Mr. Bankman-Fried and the rest of the industry
is. I do not want to lead the charge toward disintermediation
though.
Ms. Kuster. Okay. Thank you. So, turning to Mr. Bankman-
Fried, could you elaborate on what considerations were front of
mind as FTX was developing this non-intermediated model and if
any alternative structures were considered specifically to
protect consumers from the risk of a $1 trillion crash?
Mr. Bankman-Fried. Thank you for the question. I will note
that stock markets have probably lost more than $1 trillion
over the last few days as well. It has been a brutal month for
markets.
A few notes on this, we did consider a number of different
models. This has a lot of similarity to the models that are
used in every other country today. For cryptocurrency futures
exchanges this is how hundreds of billions of dollars of volume
are processed on a daily basis, and it has withstood large
market moves, including over the last few days.
That being said, there are advantages to an intermediated
model. There absolutely are. To give one clear example of this,
if you have a trading firm that is using a prime brokerage
service through which much of their flow goes and their assets
are held and they very well might want to send their FTX orders
through that as well, we absolutely welcome that. We welcome
them going through that FCM. And more generally when people
talk about, well, you could have FCMs requiring additional
margin, there is the credit relationship with their customers,
they can absolutely do that in our model as well. We require
that the clearinghouse has capital posted to it, but the
intermediaries and FCMs are absolutely welcome to have bespoke
arrangements with their clients where they request additional
margin in order to buffer positions, where they can give credit
to customers if they trust those customers and that collateral
is deposited, whichever system works best for them and for
their clients.
Ms. Kuster. Thank you, and my time is up. I yield back.
The Chairman. The gentleman from Illinois, Mr. Davis, is
now recognized for 5 minutes.
Mr. Davis. Thank you, Chairman Scott and Ranking Member
Thompson, for holding this hearing. While this Committee I
believe is still not addressing the impact that 40 year high
inflation rates are having on ag inputs, gas prices, and
grocery bills may be because inflation rates are down a
whopping \2/10\ of a percent this month, but I am glad we are
having this discussion, really given the impact that this issue
is going to have on ag commodities.
There is a lot of attention and engagement in the
cryptocurrency market. It is not the role of Congress to pick
winners and losers, tell people what they should or shouldn't
invest in, what platform investors should use, or the tools and
technologies companies should seek to adopt. Right now, we are
talking about clearing cryptocurrency derivatives, but in my
opinion there is no real distinction between the clearing of ag
commodities and cryptocurrency in terms of the risk management
standards that we currently have on the books.
My concern here is with the impact on futures markets'
stability and the risk management of volatility in ag commodity
prices for everything from corn to soy to energy and natural
gas. The farmers in my district, they are not mining Bitcoin in
their spare time, and it is not because they are worried about
climate change. And yet this issue before the CFTC could
potentially affect them in the same way, the same as crypto
traders. The major concern I have is that the CFTC, they have
the ability to create a de facto regulatory structure via
piecemeal applications that do not lend to clear guidelines or
a level playing field for all market participants and
stakeholders.
Financial services regulations in this country overall are
extremely complex. And as a Republican, I actually find many of
them to be overreaching and unnecessary. But the fact that a
politically appointed Commission or even its staff can set
singular market standards for one company that impact an entire
market is somewhat astonishing. This is not how far-reaching
market structure changes should be made in this or frankly any
other financial market.
If you look at crypto prices right now, the last thing our
farmers can afford to see today is a new layer of volatility
that stems from one-off CFTC decisions. And I agree market
volatility has been across the board. These potential changes
in risk management practices and therefore their impact on
volatility I fear could become a reflection of a piecemeal
regulatory framework and not a thoughtful, consensus-driven
approach.
I am really not here to bash a company or an idea. But I do
think that the Commission needs to act with caution and go
through a proper rulemaking process to ensure fairness and
clear rules for all market participants and those potentially
impacted.
So my question is this, and I will start with Terry. Would
you like to respond to that?
Mr. Duffy. To your statement, sir?
Mr. Davis. To the statement.
Mr. Duffy. I agree with your statement wholeheartedly. I am
very concerned that the Commission is unilaterally looking to
make a proposal for a single asset class. And if in fact they
do that, they would have to amend the application that is put
forth already today by every legal mind in the world. Now, once
that application is amended, it is open to all asset classes,
so otherwise it is deemed arbitrary. And the Commission cannot
be arbitrary. And Mr. Lukken knows this as well as anybody.
So we would have no other choice because this model, as I
said earlier, is a cheap way around jurisdiction, and we would
have to compete. Otherwise, I am going to have either FTX or
somebody else competing in the asset classes that I am trying
to provide liquidity and risk management for across the board.
And that includes every single commodity known to man, wheat,
corn, soybeans right across the board, energy, natural gas,
mortgages, foreign exchange, equity futures, everything.
Mr. Davis. Which affects my farmers in my district.
Mr. Duffy. It will affect every farmer because they will
have to be up, as Mr. Edmonds said earlier in his testimony, at
1 o'clock in the morning on a Saturday finding out that they
just lost their hedge on their crop that they already have in
the ground. Why? Because they got auto-liquidated.
Mr. Davis. Well, Sam, it was great meeting with you
yesterday. Obviously, as we mentioned, I have some concerns
about the issue that we are discussing today. Can you tell me,
based upon your testimony earlier, what kind of impact do you
think the proposal that you have put forth and your team has
put forth could have on my farmers? Can you help me understand
my concerns about the impact to the ag commodity industry?
Mr. Bankman-Fried. Yes, thank you for the question. Unlike
Mr. Duffy, I would consider whether it was an appropriate risk
model before deploying it and would only do that if I thought
it was healthy for markets. I do think that this is healthy for
markets at least in digital assets. That is why we have put it
forward. I think it is a more conservative risk model that is
nonrecourse with respect to the participants that requires that
the collateral is submitted to the clearinghouse and is
definitely there beforehand with clear and transparent
guidelines and rules around the risk engine. And I think that
all of those could help decrease volatility and increase
liquidity in markets. All of that being said, I will reiterate
that I am not planning to launch this in agriculture markets
anytime soon. Doing so would require further DCR review of any
risk----
The Chairman. The gentleman's time has expired.
Mr. Davis. Thank you.
The Chairman. Thank you very much.
Mr. Davis. Thanks, Mr. Chairman.
The Chairman. And now I recognize the gentleman from New
York, Mr. Maloney, you are recognized for 5 minutes.
Mr. Maloney. Well, thank you, Mr. Chairman. What a
fantastic hearing. I really commend you for holding it, for the
Ranking Member, and for the diverse views represented here.
Well, first, I feel like I should have made better career
choices. But second, I have to tell you, Mr. Bankman-Fried, I
am fascinated by this, and I think this is a really interesting
idea. You sure got everybody stirred up, and they hate it. They
hate this idea. I mean, understandably because of what it might
do to their businesses, but they are also concerned about
whether it blows up their business model or just the world
economy, and that is where we come in, I think.
So, clearing disintermediated margin derivative trades
directly to retail customers, that is the subject comes up a
lot at my townhall meetings. And dynamically setting margin
levels and auto-liquidation and transparent models, I mean, it
is actually a really cool idea, so I really commend you on it.
I really want to understand it more. And I am completely
agnostic about it. Help me understand the auto-liquidation
point that Mr. Duffy is making.
Mr. Bankman-Fried. Yes. So I can tell you how I see it.
Obviously, different people have different viewpoints on it.
But the way I see it, you have some user that has put on a
position. There is some collateral for that position. In our
case it is held transparently with the clearinghouse. And, at
some point if markets moved far enough against that position,
they would be out of collateral. And at that point, the
position in our model has to be closed down because otherwise
they would be more than out of collateral. Their account would
be net negative.
There are a few options for what you could do there with
different risk models. One thing that you could do is have a
recourse-based risk model where you let them keep the position
open and then go after their house if it gets negative enough.
That is not what we intend to do. We intend to instead
deleverage the positions if they are out of collateral.
But on the point of the speed of the risk engine, right, of
whether you are liquidating quickly or whether you are waiting
a few days, if you wait a few days to do it, you have a choice
between either beginning a margin call and liquidation way
earlier than may be necessary in case markets move against that
position over the next few days or waiting until a position is
almost underwater and might be way beyond bankrupt by the time
you could finish that liquidation leading to scenarios like
what we saw with LME.
Mr. Maloney. Yes.
Mr. Bankman-Fried. The advantage of the real-time one is
that you can actually precisely measure where a position is,
wait to liquidate until the last moments that you preserved the
positions if at all possible, while still protecting the
systemic risk.
Mr. Maloney. Well, I will let Mr. Duffy get in here, but I
also want to talk about your models. How do we know you have
the right models? How do we know you have the right risk
models? What if you get your models wrong?
If you get your models wrong, it is all wrong, right?
Mr. Bankman-Fried. Yes, absolutely. So there are a number
of things. We have gone through an extensive process with the
CFTC on this, on the details of the model, on the back-testing
of it, both the historical data, with simulated data under all
of the necessary standards. In addition to that, we have been
running a model that this be more conservative than
internationally for the last 3 years has gone through days with
40 percent moves in markets in a single day. We just went
through a 40 percent move over a few days. It has been
functioning well in that environment, handling tens of billions
of dollars of daily volume. We have never had to mutualize
losses. We have never gotten close to that point. The entire
insurance fund draw over the history is a tiny fraction of what
we are proposing for our own skin in the game for the initial
guarantee fund, and so that is sort of an empirical test on it
as well.
Mr. Maloney. All right. Fifty seconds left, Mr. Duffy, I
know you hate it. And I know you said you are not against it,
you just don't want to lead the charge. It is a hell of a
disruption, let's face it, and it doesn't mean you are wrong.
Help me understand. I mean, so are you saying no or are you
saying not now?
Mr. Duffy. I am saying an industry----
Mr. Maloney. Mr. Lukken's statement was exquisitely worded.
He just doesn't want to do anything right now, he wants to look
at it more, very thoughtful, tough debate. What do you think?
Mr. Duffy. I believe that there should be a formal
rulemaking process at the Commodity Futures Trading Commission
where everybody gets to participate in that process and do not,
do not make this just about crypto. Make it about market
structure. That is what I am here to discuss. And on that
proposal about a liquidation, sir, one of the things that FTX
does not tell you or this Committee is what they do for
collateral. When I take on collateral, whatever form it may be,
cash, treasuries, gold, whatever I have a mix of, we have to
haircut that at a certain value. Their haircut on their
collateral for Bitcoin is five percent. Their margin to trade
Bitcoin is 15 percent of margin. This auto-liquidator will be
going with smoke coming out of it at those price levels. That
is the problem with this application. And you need to hear the
whole truth about this.
Mr. Maloney. Thank you.
The Chairman. The gentleman's time has expired. Thank you.
And now the gentleman from Kansas, Mr. Mann, is now
recognized for 5 minutes.
Mr. Mann. Thank you, Mr. Chairman. I appreciate Mr.
Maloney's comments and questions. I also would like to
associate myself with Congressman Davis's comments and
questions and really getting at the heart of what will the
impact of this, if it goes through, be on production
agriculture, on the agriculture markets as we know them and
obviously a whole host of other issues?
First question would be for you, Mr. Bankman-Fried. When we
talk about market structure, what is the difference between the
FTX proposal and the ICE NGX model that currently exists?
Mr. Bankman-Fried. Thank you for the question. And as you
were pointing out, there exist a number of licensed futures
exchanges with the CFTC that have various properties of our
proposal already, ICE NGX being one of these. The difference we
have is we are combining together a few different things, each
of which is found in other exchanges but not always together,
one of which is collateral help with the clearinghouse, the
real-time margining system, and the option for disintermediated
direct access to the platform for all participants put together
is to the extent there is something novel, I guess that is what
it is.
Mr. Mann. Okay. And the second question will be for you as
well. There has been a lot of discussion of course. Can we just
elaborate a little bit on whether or not your $250 million
guarantee fund is sufficient relative to the billions of
dollars maintained by CME and ICE in their guarantee funds?
Could you please elaborate on what you believe that your
holdings would be sufficient relative to the risk in the
market?
Mr. Bankman-Fried. Yes, thank you for the question. First
of all, and there are different terms used by the different
models for similar things, which makes it a little bit
confusing. I probably haven't done a perfect job of describing
all this. In addition to the $250 million that we have put in
the guaranteed fund, that is our own skin in the game. None of
that is mutualized. We also require margin held with the
clearinghouse from all open positions. And so internationally
we have tens of billions of dollars of collateral in the
equivalent of the clearinghouse today collateralizing customer
positions on the venue. And so that is a very significant piece
of it that plays the role of collateral held at various
intermediaries to some extent in other models and is
backstopping customer positions.
I will also say that we have done an extensive analysis
historically of this model internationally. Total historical
insurance fund draw was only a few percent of the guarantee
fund that we are proposing, and that is over the last 3 years
combined, and that is with a less conservative model than what
we would be proposing, so it has functioned successfully.
I would also just tack on one thing. The numbers that Mr.
Duffy quoted are not necessarily numbers for the U.S. platform.
That was for the international platform, although I will also
note that empirically it seems to have worked. So I don't know
where that smoke is ending up; but, apparently it has been
successfully managed, as I would predict it would be given the
premise in the risk model.
Mr. Mann. Okay. Thank you. A question for you, Mr. Duffy.
You have raised concerns about the volatility and market
disruptions spilling over from a direct access market into the
traditional market.
Mr. Duffy. Yes.
Mr. Mann. Can you elaborate on how you see that risk
transferring?
Mr. Duffy. Well, and I have said several times in my
testimony in the hearing. Here is the way it is going to play
out. Again, it is a market structure change when you go to a
direct model that FTX's proposal is asking for. When that is
deployed against other asset classes, the participants are not
crypto participants. They are farmers, ranchers, they are
producing oil, they are writing mortgages, all the products
that I trade. So I have been through that. They are not
prepared in my opinion for this type of model today because the
auto-liquidator that is being proposed is something that will
be unsuspecting to the client.
Now, he can talk about the margin that he has and the
collateral that he has, but the bottom line is people at my
institution, as I have said, have margin from CME, then have
additional margin from their clearing firms. So those clearing
firms are in touch with their clients. And if in fact they
touch certain levels, they get calls and they determine either
put up more money or we are going to take you out of the
market. So an auto-liquidator is not revolutionary new
technology by any stretch of the imagination. But the way they
do it is different. But when you deploy that and you have to
keep these markets open 24 hours a day, 7 days a week against
agribusinesses and others, I think it could be extremely
detrimental not only at a time that we are living in now but
going forward for the food industry. They need risk management
tools. They don't need casinos to do risk management.
Mr. Mann. Great. And thank you. With that, my time is
expiring. I yield back.
The Chairman. The gentleman from Arizona, Mr. O'Halleran,
is now recognized for 5 minutes.
Mr. O'Halleran. Thank you, Mr. Chairman and Ranking Member,
for organizing this important hearing. Thank you to the panel.
To be open, I am a former member of the Chicago Board of
Trade and their board of directors, so I have a little bit of
background on this subject. I understand the importance of
innovating and updating our marketplaces. It is extremely
important, and it has happened over time. I also understand
that what I have heard here today are issues that impact
consumers. It impacts the marketplace in general the ability to
hedge risk, the taxpayer, and the economy in general. And this
type of a change is important to look into in a way that
includes everybody that should be at the table.
I am awful upset with the idea that we are even referring
to the words skin in the game. This is no game. This is about
the economy of America, and we have seen too many issues over
time.
I also have a message for the CFTC. They need to work on
this with us on an ongoing basis, not a little bit of the time,
not a surprise. Don't even come to us, I don't think, before
you talk to the community in general that is involved in this
on an ongoing basis.
So, however, I am also aware of the risks that can appear
if we approach these changes thoughtlessly. And so that is my
opening statement.
And while on the board I saw markets crash. I watched
firsthand as the clearinghouses provided stopgaps to protect
consumers. It is a model that has worked over time and kept
losses to a minimum. And there is no way in this marketplace
that we are going to see a new model come forward and if it is
going to work in the process and people are going to start to
push for that model, it will expand. That is all there is to
it. There is no ifs, ands, or buts. After looking at the FTX
proposal, I wonder if a shift towards an all-in-one approach
can offer these same protections.
I appreciative the CFTC's deliberate and public approach to
answering this question as this decision will likely set
precedent for future regulation. But we have to be very
thoughtful going into this, and I think this is a process that
has begun way too late and has not spent enough time at the
process.
Mr. Lukken, in your testimony you note that the FTX
proposal would replace the traditional distributed risk
clearing model with a more automated and centralized model,
absence of intermediation. Will collapsing the functions of
various market participants into a centralized entity create
potential conflicts of interest that may impact key risk
management functions?
Mr. Lukken. That is our concern. I think, traditionally we
have put certain responsibilities in different entities. The
FCM has overseen the client, the clearinghouse is overseeing
the FCM and the clients' money there, and the regulator is
overseeing everything. And when you start to integrate that,
there are conflicts of interest that arise. Making sure that
customers when they are liquidated, you are trying to hold them
whole as best you can when doing so and not making impacts on
markets. So when you start to combine things, I think we have
to be very thoughtful about conflicts of interest and how that
is managed.
Mr. O'Halleran. Thank you. Mr. Duffy, one way the FTX plan
accounts for risk management is through auto-liquidation. I
have heard a little bit of discussion about that today. Can you
please explain how you see this process functioning from your
perspective? And the digital assets are known for being
volatile, highly volatile. Do you fear this new structure may
lead to a greater number of liquidations?
Mr. Duffy. Again, I am always cautious about trying to
predict the direction of a market. I think that is really
difficult to do, and my job is to manage risk of market
participants and make sure both sides, the pays and collects
are done properly, and that is exactly what we do at our
clearinghouse, as you know, sir.
I have been in this business for 42 years, and I have seen
a lot of things. And when we look at risk management, I think
what is really important is that CME is never in the history of
its company ever had to draw on its guarantee fund to cover
losses. So I am referring to the 1987 crash. I am referring to
the meltdown of 2000, things that we have all seen. I am not
referring to the last 36 months where the market went straight
up in crypto and hasn't had a loss. So I think there is a bit
of a difference here.
I am very concerned that when you put new proposals
forward, they are interesting, but they need to have the input
of all participants and not just one particular segment.
Mr. O'Halleran. Thank you, Mr. Chairman, and thank you, Mr.
Duffy, and I yield back.
The Chairman. Thank you. And now the gentlelady from
Minnesota, Mrs. Fischbach, is now recognized for 5 minutes.
Mrs. Fischbach. Thank you, Mr. Chairman. And thank you all
for being here. I appreciate the opportunity to ask a couple of
questions.
But I do want to--I know that Mr. Davis had started a
little bit talking about ag and ag-related markets, and so I
did want to ask, obviously the ag market is facing incredibly
difficult times right now. Inflation is hitting them, and risk
management tools are even more important than ever. But, Mr.
Lukken, you know that farmers in the agriculture community are
core users of the derivatives market. Why are these markets so
important to that community, and what tools in the existing
market help this community manage the risk?
Mr. Lukken. Well, farmers deal with incredibly thin
margins, as you know, so our markets are ways that they can
manage risk. They are planting in this spring and harvesting in
the fall. In that time period you don't know what the price of
corn may be when you harvest. So our markets are there for your
constituents to make sure they can manage that risk
appropriately.
And, they have lots of other things they must worry about.
They don't want have to worry about the price of corn or wheat
up in Minnesota. So, these markets are incredibly important,
and that is why I think today's discussion is important because
this is a precedent-setting event.
Mrs. Fischbach. And do you have anything else that you
could add about maybe how the proposal--I know that Mr.
Bankman-Fried said that it doesn't deal with the ag markets
right now, but do you have anything to add about potential
issues with the ag market?
Mr. Lukken. Well, I mean, the proposal before the CFTC is
open to any asset class. This is really not about
cryptocurrencies. This is, as Mr. Duffy was saying, about
market structure. Futures markets are well-regulated, best-in-
class regulatory system that this Committee helped to
construct. And so if we are pivoting from that, that is going
to have impacts beyond simply cryptocurrencies. So we want to
be thoughtful about this. We want to be deliberative about this
and make sure the rules of the road are the same and at the
highest levels of risk management. So it does have the
potential to impact ag markets. Again, they need access to risk
markets, and we want to make sure it is fair and safe for them.
Mrs. Fischbach. Thank you very much. And, Mr. Bankman-
Fried, do you have any response to the issues with the ag
market? And, like I said, I know earlier you mentioned that it
didn't involve that, but I am curious as to your reaction.
Mr. Bankman-Fried. Yes, and I can just reiterate again like
we are not planning to get into ag anytime soon, and we are
open to making that legally binding in some ways, to making
that formula.
I think that I would be really interested in doing a deeper
dive with the Committee, with the constituents on risk models
in the ag markets. I think there are parts of this risk model
that I think could be helpful and appropriate. There are also
things that we need some deeper thought around weekends, around
physical delivery and how that would interplay with the risk
engine. I basically still think that some processes may end up
being very helpful and attractive for those markets when you
look at the easy, equitable access, when you look at the clear,
transparent margining, and when you look at not making our
farmers pay for market data that is supposed to be providing
public price discovery. But I would also welcome a longer
process around ag products.
Mrs. Fischbach. Thank you. And, Mr. Duffy, I have to call
on you because you are making faces, so did you have a
response? You looked like you were ready to say something, like
I say, making faces.
Mr. Duffy. Well, I am always ready to say something. It is
in my nature. I can't help myself.
Mrs. Fischbach. Okay.
Mr. Duffy. First of all, on the market data question that
Mr. Bankman-Fried continually says how it is free, we never
charge for market data historically at CME Group. We never did
until just a few years back. The reason why we charge for
market data, it is just not your data you are paying for. You
are paying for a constructed amount of data that has a
tremendous amount of value that I have to put a lot of effort
in and cost into accumulating that data for people to do their
risk management, whether it is historical data, whether it is
derived data, or other data. It is not just market data on
pricing. So it is really important to make that distinction
about this free data that he keeps referring to. We sell
quality data that brings benefits to the participants. But it
would cost us a lot of money to do it.
The model that is going to potentially be deployed, Mr.
Bankman-Fried keeps reminding everybody that he does not have
any intention right now to go into other products. He has the
ability to do so. His application says he can do it. So I am
supposed to sit on the sideline while they decide if they are
going to do it or not, and they will be way ahead of me because
they are doing it in a crypto asset class. So what will happen
is they will do it--the ag community will go with him when
times are stable. When they hit the fan, they are going to want
to come with me. I am not going to be there because I will be
deploying the same model. This is a nightmare for the
agricultural community.
Mrs. Fischbach. Thank you, Mr. Duffy. And I have 6 seconds,
and I will yield all of those 6 seconds back. Thank you.
The Chairman. Thank you very much. And now the gentleman
from California, Mr. Khanna, is recognized for 5 minutes.
Mr. Khanna. Thank you, Mr. Chairman. Thank you for your
leadership. Thank you to Ranking Member Thompson for his
leadership.
Mr. Duffy, you obviously have very strong opinions about
cryptocurrency, so let's start with the basics. Could you tell
the Committee what you understand and how you define
blockchain, and can you tell us some of the use cases of
cryptocurrency for the American public?
Mr. Duffy. Yes, I had a conversation with somebody in the
industry, and I believe that the use case of cryptocurrency----
Mr. Khanna. If you could start with the definition of
blockchain. How do you understand blockchain?
Mr. Duffy. The blockchain is a node either centralized or
decentralized run by different platforms with parts of
information that only certain people that have access to it can
change that information. And once it is in the blockchain, it
stays there. And in order to amend the information, there are a
lot of procedures and protocols to go through the blockchain.
It is a very complicated procedure. I think it is an excellent
form of commerce for medical records, things of that nature, so
I do think that----
Mr. Khanna. And what do you see as some of the use cases?
Mr. Duffy. Use cases of blockchain?
Mr. Khanna. Yes, and cryptocurrencies and some of the----
Mr. Duffy. Well, I don't know if there is a use case of--
here, the one blockchain that has been talked about today is
Ethereum----
Mr. Khanna. Do you see a use case for stablecoins?
Mr. Duffy. Do I think there is a use case--I am happy to
answer your question, but which one do you want me to answer?
Mr. Khanna. Stablecoins, yes or no, do you think there is a
use case?
Mr. Duffy. Do I think there is a use case for stablecoins?
I think there was until the other day. That didn't go so well
for stablecoins, so I am not so sure if there is a use case for
them. I do believe central governments----
Mr. Khanna. You don't think there is a use case for
stablecoins? Okay. Do you think there is a use case for----
Mr. Duffy. I think the United States Government, sir, needs
to be involved and central banks----
Mr. Khanna. I am just asking you do you think there is a
use case for Solana or some of the other--of the top-ten
cryptocurrencies----
Mr. Duffy. I am not a crypto expert, sir. I list Bitcoin
and----
Mr. Khanna. Well, you certainly have opinions about
cryptocurrencies.
Mr. Duffy. I do. I have opinions on----
Mr. Khanna. You are testifying----
Mr. Duffy.--an application, sir, not about cryptocurrency.
Mr. Khanna. Now, you talk about under oath, you say, if I
could just quote you because you may want to take this back, I
don't know----
Mr. Duffy. I don't take anything back.
Mr. Khanna. You say the FTX--well, you are under oath, sir.
Mr. Duffy. I am not under oath.
Mr. Khanna. FTX has no capital requirements for
participants. Are you going to stick to that under oath?
Because the CFTC's part 39 regulation requires capital
requirements for FTX or for any of these exchanges. Are you
really saying they have zero capital requirements, or do you
want to amend that statement, given you are under oath?
Mr. Duffy. No. Sir, you are moving away from your
microphone. Can you read the statement that you would like me
to----
Mr. Khanna. Yes, I am asking you, sir, you have a saying
that FTX has, quote, ``no capital requirements for
participants.'' I think that is on its face a false statement
given that the CFTC part 39 regulation requires capital
requirements, and FTX does have a capital requirement for
margins.
Mr. Duffy. I said the capital requirements are not the same
as they are for other institutions.
Mr. Khanna. Well, that is not what you said, sir. Under
oath you have submitted to this Committee a statement that is
false. You have said the regime has no capital requirements for
participants. I would strongly recommend that you have someone
on your team amend that statement----
Mr. Duffy. Well, I would like to read that statement
because I happen to disagree with you, sir.
Mr. Khanna. Well, it is your testimony. It is your
testimony.
Mr. Duffy. I get it. I would like to see the statement that
you are referring to.
Mr. Khanna. I am reading from own testimony.
Mr. Duffy. I can't just go off of what you are reading.
Mr. Khanna. You are here to----
Mr. Duffy. Capital is not the same as margin, Congressman.
Mr. Khanna. Well, sir, I want you to, after this, submit
something that is accurate, recognizing you are giving
testimony to the United States Congress. You don't know much
about cryptocurrencies, you are opining on cryptocurrencies,
and then you are giving false statements to the Congress that
you aren't even knowing that you are submitting. You write FTX,
quote, ``has no capital requirements for participants.'' That
is just false.
Mr. Duffy. Sir, I will be happy to read my testimony back
to you if you would like, but if you want to make this into a
court of law, I am happy to participate in that as well.
Mr. Khanna. Well, it is not a court of law. It is that you
can't give false statements to the United States Congress. You
can't come in and say----
Mr. Duffy. I am well aware, sir. I have testified in front
of this Committee over 50 times. I am well aware of the
procedures of this Committee.
Mr. Khanna. Well, then can you--I would submit that you
need to correct the record because you have, quote, your
testimony, ``no capital requirements for participants.'' Anyone
who has basic understanding of the CFTC knows that part 39
would make that a completely wrong statement. Of course there
are capital requirements, and I suggest in the future that you
do some homework on what cryptocurrencies are----
Mr. Duffy. Well, I appreciate you telling me to do my
homework. I assure you, sir, in the amount of years I have been
in this business I forgot more than most people ever know.
Mr. Khanna. Well, I appreciate it. I hope you will correct
the record so you are accurate and not giving false testimony--
--
Mr. Duffy. I don't give false testimony, sir. It is not
what I do.
Mr. Khanna. I yield back my time.
The Chairman. The gentleman from Indiana, Mr. Baird, is
recognized for 5 minutes.
Mr. Baird. Thank you, Mr. Chairman and Ranking Member, for
holding this hearing. I always appreciate the effort that the
witnesses make and the testimony that you give. To have such
expertise before this Committee is extremely valuable to us,
and I think it is valuable to whatever issue we are discussing.
But I am going to change just a little bit and ask this
question. And I hope I can get each one of your response. So to
do that, I better quit talking and start asking I guess.
The U.S. lags behind other countries in the adoption of
digital assets with over 95 percent of the trading volumes
occurring overseas, and I know you know that. So my question
is, like some of my predecessors, how would this benefit
Americans, including farmers and ranchers, if more of this
trading activity were to be on-shored and take place in the
United States? I think that is kind of the core of what we are
trying to do here. So I guess I want to do this in a specific
order. Mr. Lukken, would you mind starting this discussion?
Mr. Lukken. No, I do think there has been an identified gap
of regulation by many that cryptocurrencies need--we need to
develop a framework in the United States to do that. I think it
is a reality that they are here to say. I think it would be in
our interest as a nation to try to develop a strong regulatory
system for cryptocurrencies to attract that to the United
States.
Mr. Baird. Great. So then I want to go to Mr. Edmonds.
Since you are involved internationally, I would like to know
your opinion of how that affects that market.
Mr. Edmonds. Well, right now, I believe the delta that
exists in the world is we don't know what regulator is
responsible for what version of a crypto asset for the lack of
a better term. You have the SEC expressing a desire to regulate
parts of it. They will call those securities. You have the CFTC
that will regulate part of it based on their charter. You have
the United States Treasury who have made comments about that
about the oversight they need to have. You have the Federal
Reserve system exercising comments or providing comments around
what they should do when it comes to stablecoin. So right now
there is not a clear known path that we can all sit back and
make rational commercial decisions at that moment in time to
say these are how we are going to offer services if we so
choose to do so. And so until that is settled, it seems very
difficult of how you are going to regulate a market. And I
think what FTX and others may be doing at the time is finding
the closest thing they can get because they there still lacks a
very consistent national message.
Mr. Baird. Thank you. And, the next one goes to Mr.
Perkins. And as a Vietnam veteran, I will always let the
Marines go in first.
Mr. Perkins. Semper fi, sir.
Mr. Baird. But I would appreciate your opinion about
bringing it onshore.
Mr. Perkins. Absolutely. Web3 is here, and we can't put the
genie back in the bottle. And what we do--we owe it to U.S.
persons to have a very robust, regulated, thoughtful
derivatives regime that allows them to hedge their risk. My
belief is that what FTX has proposed is viable and needs to be
considered because it addresses a few things. It addresses
thoughtful risk management and what we call defaulter pays. The
people that are putting risk into the system are paying for
that risk via collateral.
It is more inclusionary. I ran an FCM, and it was very
difficult for us to give capacity to anyone other than our top
clients. And so what I would like to see here is to give the
ability for market participants to hedge their risk. We talk
about volatile markets. Right now, we haven't given these
market participants the ability to hedge because the activity
is offshore, and that is how I would answer it, sir.
Mr. Baird. Thank you very much. And so then, Mr. Bankman-
Fried, would you care to comment about that same issue?
Mr. Bankman-Fried. Yes, thank you. I completely agree,
almost all of the activity is offshore. I think that does not
do a service to our country. I think that means that the
traders in our country do not have Federal oversight of
cryptocurrency markets. It means they don't have access to the
same level of liquidity, depth of order book, or hedging that
users in the European Union, in Japan, in Australia, and a
number of other jurisdictions do today. It means that we don't
have that economic impact here. We don't have those jobs here.
And I think that it would serve a lot of interests at once to
regulate these in the United States. And that is what we would
love to be a part of doing.
Mr. Baird. Thank you. And, Mr. Duffy, we have about 25
seconds, so you got keywords.
Mr. Duffy. On the business being overseas versus the U.S.?
Mr. Baird. Yes.
Mr. Duffy. Listen, I think markets are global in nature.
They have a tendency to go to certain jurisdictions, certain
products do. Certain products are very domestic to the United
States. Other products are domestic to the European Union, and
others are to the Asian communities. So if cryptocurrency needs
to be a global product, I am not so sure that is the case. I
think when you look at who is participating in the crypto
business today, someone made reference that one in five people
have traded crypto. I truly believe that is mostly retail
participants that have been in this market, not institutional
participants managing risk.
Mr. Baird. Thank you. I yield back.
The Chairman. The gentleman's time has expired.
The gentlewoman from Washington, Ms. Schrier, is now
recognized for 5 minutes.
Ms. Schrier. Thank you, Mr. Chairman. And welcome to our
witnesses.
Look, my biggest priority here is making sure that
consumers and my constituents have options for investing
safely. Even the most discerning consumers can face challenges
navigating potential tricks and pitfalls when making a
financial trade. I think it needs to be really clear that all
derivatives clearing organizations are abiding by the Commodity
Exchange Act, which regulates commodity markets. I am really
grateful that the CFTC is taking such a thoughtful and diligent
approach to considering all the different facets of this new
proposal to keep our markets fair and safe. I want to make sure
we are doing the same thing here on the Agriculture Committee.
And so, Mr. Bankman-Fried, it is good to see you again. Can
you tell me, how does FTX plan to strike that right balance
between offering new financial products that may expand
economic opportunities for investors while still ensuring
consumer protections are maintained?
Mr. Bankman-Fried. Thank you for the question, and great to
see you as well. I think the central balance to strike here is
extremely important. On the one hand we want to be able to
offer equitable access to the platform, to the data so that the
consumers have that same fair, level playing field as the
largest trading firms do. On the other hand, we have to have
all of the customer protections that we are used to in
financial markets here. So, every piece of this is overseen
directly by the CFTC in our proposal, and they would have
oversight over it. We would be giving full transparency and
disclosures about the products that we are listing, about the
mechanics of the exchange of the venue, about how it works,
educational material about it, tutorials that you have to go
through before using it, quizzes about how the product works,
along with full explanatory material on it, and we are also
looking to create sort of template registration type statements
for the assets that we are thinking of listing so that there is
a lot of transparency data around the products that people
would be trading and that we should only be listing things that
are suitable for access here, and so that means working with
the CFTC on that topic as well. These are just really, really
important topics.
Ms. Schrier. I want to thank you for listing off all of
those elements because when I hear the words--just as a
consumer, myself, when I hear the words transparency and a list
of all the risks, when I think of it, it is a lot of really
small print that is really hard to understand, to read through,
and to really grasp the concepts. I appreciate your talking
about things like big print, common language, information
sheets, and even quizzes to make sure people really understand
what their risks are. Do you have any information about those
quizzes or whether they paint--I mean, even pictures of things
gone sideways so people really understand risk in terms of a
story. We find stories work well.
Mr. Bankman-Fried. Yes, and I completely agree that it is
one thing to literally have text somewhere on a website, and it
is another thing to have a clear, transparent, and
comprehensible and intuitive explanation of what is going on.
We can follow up with you and send you materials that we have
put together on this that show graphically what many parts of
this look like and would love to do that.
But, yes, I mean, this should be something that is
intuitive when it is displayed and that you can't avoid looking
at before you start using the platform because everyone knows
that clicking confirm once for a giant scrolling box of text is
something that people have gotten very good at doing.
Ms. Schrier. That is right, myself included. I want to
thank you very much. I look forward to getting that
information, learning more, and I appreciate your attention to
protecting consumers. Thanks very much, and I yield back.
The Chairman. The gentleman from South Dakota, Mr. Johnson,
is recognized for 5 minutes.
Mr. Johnson. Thank you, Mr. Chairman. I appreciate it. My
question will be for Mr. Lukken, and then Mr. Bankman-Fried can
offer any contrary thoughts he might have. But, sir, I listened
with interest the exchange you and Ms. Adams had where you
noted this auto-liquidate model mechanism particularly with
regard to hedgers could impose, I think you said, ``disruptive
effects on the broader market.'' Educate me. Help me explain
what those disruptive effects could be, and, again, maybe to
people who are a few levels away from the transactions that are
being reviewed?
Mr. Lukken. Well, typically when there is a default in the
marketplace, the FCM will take those positions and try to
manage that default and making sure that either hedging those
positions or making sure that it is not being dumped
necessarily into the marketplace because the last thing they
want to do is either disadvantage their customer or--and FCMs
are required by CFTC regulation not to have an impact on the
market. That is a rule. And so when you get into auto-
liquidation, there is not a lot of discretion or judgment
there, right? You are having to dump into the marketplace
according to the algorithm.
So I think one of the things we are trying to explore with
this new model, as the positions get bigger--and often times,
hedgers have very large positions--as you start to put things
into that auto-liquidation feature, is that going to have not
only for the hedger but for other people that may be hedged in
that price of that product, it may have an impact. And so that
is something I think we are considering. Again, for small
positions, auto-liquidation may not have a market impact, but
as they get bigger, that is where we have some concerns.
Mr. Johnson. There has been some insinuation and probably
even somebody said it explicitly that this particular mechanism
could create more cascading waterfall-type impacts and a
contagion-type environment. That may be. I just don't know that
I understand that that is the case. Why do you think it would
have more risk for the system?
Mr. Lukken. Well, it is like a typical financial run on a
bank. As prices start to decline, defaults start to happen.
When you start to cover those defaults, more auto-liquidation
happens, and it starts to cascade. And, typically what CCPs
like to do--and I worked at the CFTC as acting Chairman during
the Lehman crisis. The futures business, by the way, was left
whole. It was not the problem. But we were able to work slowly
to move those positions to FCMs that could take on those
positions. I know Chris was there in the trenches as well. But
that is a way that we prevented a liquidation into the market
so that the price and other futures hedgers weren't impacted.
Mr. Johnson. The FTX proposal, though, has some of their
capital in a reserve, I think to be able to respond to some of
these situations you are talking about. Is this suggestion then
that that is an insufficient degree of capital?
Mr. Lukken. It is hard for us to know. I think they have
scaled that, and it is a significant amount of money. However,
for us, you are really trying to measure extreme but plausible
situations. And whether three of their largest clients is
extreme but plausible is a little different than the FCM model
where they are extremely large. If you take two of the largest
FCMs, that is \1/3\ of the volume on an exchange. I don't think
the FTX model necessarily to Cover-3 is extreme but plausible.
I think that is worth exploring and understanding better.
Mr. Johnson. So, Mr. Bankman-Fried, the allegation has been
that that is not a sufficient capital to cushion systemic risk
and impacts. Your thoughts?
Mr. Bankman-Fried. First of all, I agree with a lot of what
Mr. Lukken said, and I think these questions are in good faith
because they are important. Here is sort of my sense of them.
First of all, I will note that our liquidations are partial. We
go piece by piece. This doesn't solve all problems. At the end
of the day, if a position needs to be closed, it needs to be
closed, but we do take measures to attempt to do less if
possible.
I will note, Mr. Lukken pointed out correctly that there
are a lot of cases where it can be helpful to have an
institutional party which manages a position rather than
liquidating it. We do have two systems in place for that. The
first is the backstop liquidating provider system where there
are institutional trading firms that are passed off positions
in extreme market conditions if the order book can't handle
them. But the second is that we do have optional intermediation
where FCMs are welcome to play that same role with their
clients where they can post the margin for the position and
then work with their client or themselves or however they want
on managing that, so we do have that as an option.
I will say on the amount of collateral here, I do actually
think that the top three users on the exchange are going to be
quite large. That is true if you look internationally right now
that the top two users are a significant fraction of volume on
the exchanges. These are generally either large intermediaries
or large global multi-asset-class trading firms. But I will
also say that the amount that we will put in the guarantee fund
is way above what the standard would have required by a pretty
substantial factor.
The Chairman. The gentleman's time has expired. And now the
gentleman from California, Mr. Carbajal, is now recognized for
5 minutes.
Mr. Carbajal. Thank you, Mr. Chairman. And thank you to all
the witnesses testifying before our Committee today.
It is extremely important that the U.S. is a place that
innovation and digital assets can flourish and that U.S.
consumers can enjoy the financial benefits associated with
cryptocurrency. It is also, however, absolutely critical that
innovations do not come at the expense of consumers. There must
be protections in place to safeguard consumers so that they do
not face financial ruin while some companies profit off that
loss.
I think digital assets entice a lot of people because they
offer an opportunity to quickly make a lot of money. But as is
the case with any investment, not everyone will see the level
of success they hope for. I know that whether you invest in
traditional stocks, trade, derivatives through a traditional
clearinghouse or purchase digital assets, there is always a
risk.
Mr. Bankman-Fried, I think I am on the same page as you
that increasing equitable access to markets is a good thing.
You noted in your testimony that all users should have
equitable access, quote, ``so long as they are sufficiently
informed and can demonstrate that they understand what they are
trading,'' end quote. To that end, what steps is FTX taking to
ensure new users, specifically retail users who may not be as
experienced as traditional client base, are informed and able
to demonstrate they understand what they are trading? How will
you ensure individuals fully understand the risks they are
taking should they choose to trade cryptocurrency on margin?
Mr. Bankman-Fried. Thank you for the question. And I
completely agree that that is incredibly important. The first
thing that I will note is that the majority of the low
engagement retail users who are not sophisticated traders do
not access leveraged futures on the platform. They don't do
that internationally today. The majority of them are accessing
the spot markets, and we anticipate the same thing in the
United States.
It is worth noting that today on the futures markets in
particular over 90 percent of the volume is coming from users
trading at least $100,000 per day. And so the bulk of the users
here are larger users.
All that being said, in addition to having a large amount
of transparency, disclosures, and material, there is a
mandatory walk-through before you can trade on the platform,
which explains how it works, how the products work and, for
smaller users, a quiz that you have to take to demonstrate that
you understand how this product works. And, we think the
demonstrating understanding of the product and the exchange is
an appropriate and extremely valuable test for who should be
accessing this product while still allowing equitable access to
the disadvantaged.
Mr. Carbajal. Thank you. That is very encouraging. Mr.
Duffy, I agree that innovation must not fail to protect the
consumer. As the digital asset market continues to grow, do you
see potential ways for the clearinghouse model to evolve to
better accommodate cryptocurrencies?
Mr. Duffy. I would absolutely say yes to that, sir. I think
that there is always ways to evolve the clearinghouses to
manage risk. And again, I am not opposed to innovation at all.
I am not opposed to the direct clearing model, as I have said.
I am opposed to an application that does not allow all of us to
participate and everybody to come together to see what this
market structure is about.
I am here to discuss market structure. I am not here to
discuss the value of cryptocurrencies or blockchains or
anything else. I am here to talk about market structure.
And if I may, can I please for the record, sir, Mr.
Chairman, if I may make the following statement. When I was
getting badgered by your former colleague asking me a bunch of
different questions, he was cherry-picking my testimony. What
he failed to say that when I said there is no capital, there is
no capital being held at the FCM. Today, there is capital of
$170 billion you heard from Mr. Lukken and others. So the
gentleman was completely wrong when he said that I gave false
testimony. I gave absolutely correct testimony. There is no
capital being held at the FCM under this proposal. So I just
want to make sure I cleared the record. I apologize for not
answering----
Mr. Carbajal. Thank you. You did take up my time----
Mr. Duffy. No, I apologize.
Mr. Carbajal.--but I will accept your apology.
Mr. Duffy. I hope the Chairman will give it back to you.
Mr. Carbajal. With that, Mr. Chairman, I yield back.
The Chairman. All right. That is fine. Thank you. And thank
you, Mr. Duffy, for clearing your record. Thank you.
Now the gentlelady from Florida, Mrs. Cammack, is now
recognized for 5 minutes.
Mrs. Cammack. Well, thank you, Mr. Chairman. And as the
millennial in the room--well, I guess now there are two of us
in the room--I want to open up with saying, as a disrupter, I
like disrupters. And I think it is very clear, given the amount
of comments and feedback that we have received and the CFTC has
received on this very rulemaking process, that there is a lot
of interest and a lot of concern and vested interest in this
process.
So looking at how 95 percent of crypto derivatives and the
trading volume occurs outside the United States, I would say
that this is an opportunity. And I like opportunities. I
believe America is based on equal opportunity, not equal
outcome. So there are some issues that we need to overcome, and
I think we can. And I believe that innovation is going to be
absolutely critical as we move forward.
So I am going to dive right into it. We don't need to
separate you all, do we? All right. Well, it has been a very
colorful hearing thus far, so we are looking forward to all of
the feedback from you all.
Mr. Bankman-Fried, how are investors impacted by the
current system in which derivative marketplaces demand users to
pay for market data, order books, and market access?
Mr. Bankman-Fried. Yes, I think that makes it very hard to
have the same level of access as a smaller user as the largest
trading firms have. It means that you don't get to see what is
happening in the markets you are sending orders to. It means
you don't have the same transparency about what orders are in
the book about depth. And that is all relevant trading
information, which is gated on the amount that you are willing
to pay for it. It also means that price discovery is not made
fully public, and that is one of the core goals of
marketplaces, in addition to hedging.
And so I think that those are all reasons I--and I will add
one more as well, which is I think frankly it increases
operational costs to have gated market data. It is not always
well-defined exactly what it means to use market data, exactly
what it means to consume it. I know firms that spend large
fractions of their time arguing with other platforms over
exactly what market data is required exactly where and licenses
required for that, and I think it is also just cleaner and lets
people innovate on our data if they want to, to make it open.
Mrs. Cammack. Well, you answered two of my follow-ups, so
thanks for that. Would the FTX--or I guess how would the FTX
real-time risk management of margin products affect market risk
and asset volatility, especially during times of market
uncertainty like we have seen with the war in Ukraine, for
example?
Mr. Bankman-Fried. Yes.
Mrs. Cammack. And I will throw another one at you. So would
it have prevented--your system, would it have prevented like
what we saw with the nickel futures and that market meltdown
with the London Metal Exchange?
Mr. Bankman-Fried. Yes, thank you. I do think it would have
helped prevent that. And, the way I see it is that if you have
a real-time precise risk engine that knows the exact amount of
collateral that a user has and can act promptly, I think it is
often viewed as being punitive to the user. I don't think that
is how it is. I think what it means is that you don't have to
preemptively liquidate them out of fear of where our markets
will move, and it means that you don't have to ask for as much
collateral at the beginning or if you do ask for the same
amount of collateral that they have a much bigger buffer before
their position would be in danger of liquidation, given the
promptness with which it can act. And it means that you can
operate a model without recourse so that people know that they
can't lose more than they deposited to the platform, that they
are not worried you are going after their bank account or their
house. You can accomplish all of those things more cleanly with
a real-time risk model that can wait until a position is
nearing being out of margin before closing it down while still
preventing systemic risk and being on recourse.
I think those sort of things would have helped
substantially prevent what we saw with the LME nickel futures
where, first of all, it was unclear where the collateral was if
it was even there, and then it took days for the exchange to
figure out what had even happened, by which time nickel had
kept moving. The position was billions of dollars underwater
before there was any transparency to the system on what
happened. And so I think all of these would likely have helped
mitigate that.
Mrs. Cammack. Well, thank you. I have only got about 30
seconds left and, Mr. Edmonds, I have a very lengthy question
for you, so I am going to have to submit it for the record.
There just simply isn't enough time to really cover what we
need to cover here in talking about market structure and this
proposal. So with 13 seconds left, Sam, you mentioned that you
are not getting interested, in your words, into getting into
the ag markets anytime soon. Can you explain that just a little
bit?
Mr. Bankman-Fried. Yes, I mean, I think I am interested in
the markets, but I think they need more analysis. I think, as
other people have been pointing out, different market
structure, different settlement, different timing, it just
needs more thought.
Mrs. Cammack. Thank you.
The Chairman. Thank you very much. And the gentlewoman from
Virginia, Ms. Spanberger, who is also the Chair of the
Subcommittee on Conservation and Forestry, is now recognized
for 5 minutes.
Ms. Spanberger. Thank you very much, Mr. Chairman. I have
appreciated this conversation. It has been incredibly
interesting, so thank you to our witnesses for participating.
Mrs. Cammack, I should have additional time if you would
like for me to yield to your to continue your question. I am
happy to do it because I have so many questions I actually want
to just diverge completely and speak from the perspective of
someone who is the Chair of Conservation and Forestry. I really
just want to have a general conversation, though quick because
I have already offered Mrs. Cammack my time, about the impacts
of digital assets, particularly cryptocurrencies have on the
environment and really what these investments mean potentially
for sustainability. We know according to the University of
Cambridge Bitcoin mining alone requires 132.48 terawatt hours
of energy annually. And for context, this energy use easily
surpassed the annual energy use by the nation of Norway in
2020. So roughly 35 percent of all Bitcoin mining takes place
in the United States. And according to the Energy Information
Agency, this is translated into roughly 40 billion tons of
carbon dioxide produced by U.S. Bitcoin mining in 2021 alone.
Certainly, Mr. Bankman-Fried, I know that you speak to the
commitment of carbon neutrality in your testimony, but I would
like for you just to expand on that a little bit. Like how can
we make sure that as we are looking at a forward-looking
technology, et cetera, et cetera, that we are also finding
opportunities to really reduce emissions? I think people don't
think about the environmental impact of Bitcoin, but I do think
it is a serious issue to consider.
Mr. Bankman-Fried. Yes, thank you for the question. I
completely agree. And, there is one practice where we do buy
carbon offsets and on top that we invest in R&D. Let's put that
aside for a second though because I can only scale so much. In
the end, my real answer is that if you would see the crypto
industry scale 10, 100 times as big as it is today, it would be
insane for the energy usage to be scaling as much as well for
the reasons you are point out.
I also don't think it would, and the reason is that while
Bitcoin is a proof-of-work blockchain that is energy intensive,
most other blockchains are proof-of-stake blockchains that have
effectively no energy cost to them. The bulk of transactions
already are happening on low-cost proof-of-stake blockchains.
And for economic reasons as well as environmental reasons those
have to be the ones that scale. You can't be paying $10 for
every transaction in a scalable system. And so while Bitcoin
may or may not end up being a large storer of value--don't want
to give investment advice or anything--that doesn't mean that
it has to be the blockchain on which millions of transfers are
happening per second. And to the extent that blockchains do
grow in size, I think it has to be and will be the low-cost
proof-of-stake networks that will not be expanding the climate
impact of the ecosystem.
Ms. Spanberger. Thank you. I might follow up with
additional questions for the record, but as I have offered my
time, and I am curious to hear the question, Mrs. Cammack, in
the interest of bipartisanship, over to you.
Mrs. Cammack. Well, thank you, Representative Spanberger. I
appreciate you yielding your time.
This is a little bit in the weeds so bear with me here, all
right? Mr. Edmonds, you noted that, quote, ``FTX participants
lose their positions when markets move against them, and they
are liquidated at adverse prices,'' end quote. But some market
participants in volatile markets, especially agriculture
markets, have noted a similar effect occurs with exchange
circuit breakers when trading is halted for the day if prices
move too much. In traditional markets, significant volatility
plus a halt in trading can result in large unaffordable margin
calls at the end of the day. If a participant cannot make their
margin call, their position is liquidated and their initial
margin is taken up to make up the difference, both closing out
a potential hedge and costing the participant their initial
margin. But the real kicker comes when the market reopens and
the volatile price swings back the other way, returning the now
liquidated position to profitability. How different is that
scenario under traditional markets from the scenario that you
laid out in your testimony? In both cases, the hedger is out of
a hedge and collateral.
Mr. Edmonds. Right, but in the----
Mrs. Cammack. Sorry, I know that was a mouthful.
Mr. Edmonds. I will try to be as brief as possible. In the
traditional marketplace, you have the FCM in most cases
intermediating that relationship. They may be in certain
circumstances extending you credit based on their knowledge of
your known physical position. And they see that and that is a
relationship you have and that is a credit relationship you
have with that intermediary. There is no chance for that in the
case here.
I would also say as to the point of volatility, the price
in the morning can be very against your position and a few
hours later that position before the market session closes can
come back into your position. In this case without a
liquidation you have already lost that. In the other case you
are going to have that position on an overnight when the market
closes and the price is set and you are going to determine
whether you pay for that or not, and that is going to be
between you and the relationship you have with your FCM.
Mrs. Cammack. Well, and I know I just ran out of time. I
would love to get your rebut to that as well just so that all
of us can really understand all sides of this.
[The information referred to is located on p. 217.]
Mrs. Cammack. But with that, I yield back unless any other
Members want to yield their time.
The Chairman. The gentleman from Georgia, Mr. Allen, is
recognized for 5 minutes.
Mr. Allen. Thank you, Mr. Chairman.
And, the market is very volatile, as we know. In fact, Mr.
Bankman-Fried, you have had a tough couple of days here. In
fact, it reminds me of the story in 1987 I think Sam Walton,
which we all know was the first investor to lose $1 billion in
a day. And he was asked the question, my goodness, what are you
going to do? And he says, well, it is only paper, and we are
still in business.
So with that, Mr. Duffy, obviously, we are seeing
tremendous fluctuations in obviously the market, crypto,
otherwise. Your protections, how much are they fluctuating?
Mr. Duffy. Which protection are you referring to?
Mr. Allen. Your collateral.
Mr. Duffy. Sorry?
Mr. Allen. Your collateral----
Mr. Duffy. My collateral at the clearinghouse fluctuates--
it is probably sitting out about $225-$240 billion right now
sitting in my clearinghouse protecting positions on the
exchange.
Mr. Allen. Okay. As I understand the purpose that we got
into this business is to get rid of volatility for our farmers.
In other words, they produce a crop, and they make a
substantial investment to produce that crop, and so they need
to know about what that crop was going to be worth when they
harvest it. And of course we had what happened in 1982 that we
lost a lot of our agriculture industry in that one sweep. And
of course we started coming up with other ways to stabilize the
markets.
And of course your system, I think there are two companies
that largely have been in this business to stabilize. A farmer
comes to you, he says I will sell my corn at this, you place
it, and then the risk is appropriately shared. So how much
fluctuation--like we are talking like, Mr. Bankman-Fried, I
understand it was half of his value was lost. What would it
represent as far as your market and your collateral? Like would
it be ten percent down or 20 percent down or based on these
fluctuating markets right now?
Mr. Duffy. The fluctuating markets in the agricultural
markets?
Mr. Allen. Yes, sir.
Mr. Duffy. Very de minimis, sir.
Mr. Allen. Okay. That is----
Mr. Duffy. Very de minimis.
Mr. Allen. Which is what we are trying to accomplish with
this whole business anyway.
Mr. Duffy. Yes, sir, and it would be very, very small.
Mr. Allen. Yes. And the other question, Mr. Bankman-Fried,
for you, is you have submitted an application to the Commission
for approval. Why is that application incomplete?
Mr. Bankman-Fried. Sorry, can you--why is it incomplete?
Mr. Allen. Okay. Well, you are saying that there are other
measures that need to be implemented to sustain your
collateral. And you are looking for guidance from the
Commission on that? In other words, let me understand what you
are up to here. You are the one that is coming to ask for
approval, yet you are basing your approval on whatever the
Commission says you have to do. I would think you would have
all of your ducks in a row before you submitted the
application.
Mr. Bankman-Fried. We do think we have all of our ducks in
a row.
Mr. Allen. Okay. So then why do you think the Commission is
going to require you to do other things?
Mr. Bankman-Fried. What are you referring to?
Mr. Allen. Well, I don't know. What I gathered from
comments my colleague from Georgia, Mr. Scott, said from your
collateral standpoint and the fluctuations this commission--
because again, we are talking about agriculture here, the
farmer, and stability. How are you going to provide that when
you are seeing these fluctuations in the market?
Mr. Bankman-Fried. Are you asking how we would provide to
agricultural parts in particular or are you asking about the
collateral volatility? I am sorry, I think I don't understand
what you are referring to.
Mr. Allen. Okay. Well, we will try to educate Mr. Bankman-
Fried on how agriculture works. Thank you, and I yield back.
The Chairman. Thank you, Mr. Allen.
And now the gentlewoman from the U.S. Virgin Islands, Ms.
Plaskett, who is also the Chair of the Subcommittee on
Biotechnology, Horticulture, and Research, is recognized for 5
minutes.
Ms. Plaskett. Thank you so much, Mr. Chairman, and thank
you for you and your staff's leadership in assembling this
really great panel of witnesses for us to try to understand and
to get into what is happening at the CFTC, what is happening
with regard to the commodities exchange, and what is actually
going on within crypto.
A little earlier in the discussion I was right there in the
hearing room, and one of my colleagues said that he had decided
that he had made maybe the wrong decision in terms of his
career choice, and everybody laughed. But we recognize that
those of you who are witnesses are there because you have
obtained a level of intellect and a level of understanding of
these that doesn't come very quickly. And to make such a
statement to me really reveals a kind of sense of failing
forward. There are those of us in our society who are allowed
to fail forward and those of us who are not, who do not have
that luxury.
And I feel it is part of my responsibility to be concerned
with, one, the consumers who may fail forward and fail because
of the activities of all of the witnesses that are here today,
whether it is a commodities exchange that has kept certain
classes of farmers out of the benefits over 100 years of the
use of the commodities practice and commodity farming, or
whether it is the young individuals who are underbanked who see
crypto as a way to gain wealth, which is very tenuous at best
for them. And so I believe that we as Members of Congress have
a responsibility to safeguard all of those areas.
Some of the questions and the testimony I thought was very
instructive to me, Mr. Perkins, one of the things that you
discussed in your testimony was that you did not believe that
there was a negative impact of embracing the innovation.
However, some guardrails needed to be put in place. What
guardrails? Have you thought about that, what the guardrails
might be that would be best to put in place to ensure
safeguarding and allowing the innovation and allowing this
growth in technology while preserving the American farmers, as
well as those individuals who even engage in cryptocurrency?
Mr. Perkins. Thank you, Congresswoman, for your question.
Related to the issue at hand with central clearing, it would be
my belief that the same principles should be applied to FTX as
applied to the CME and everyone else. And so when you look at
ways to collateralize the system, it should be extreme but
plausible. We need to make sure that there are sufficient
disclosures for people who understand the risks of
participating as well.
But if you step back, I think it is imperative for all of
us to make sure that people are educated not only on the
opportunities but also the risks of entering into these asset
classes. And I look forward to working closely with the
regulators on ensuring that the approach is always principles-
based, right. And, listen, the CFTC today, they have full
authority to police issues of fraud, manipulation, and abuse.
We should have very little tolerance for those types of things
in this environment, along with the other regulators.
Ms. Plaskett. Thank you for that. I agree with you, and I
think the education portion is very important. I am always
very, very skeptical of a new product or a new scheme that is
actually even attempting to go after minority communities,
individuals who have been kept out. Why are they all of a
sudden being allowed in? It could be altruism but it could also
be to their detriment.
One of the things that I think has not been asked to Mr.
Bankman-Fried is, sir, one of the discussions is that we should
have followed a longer process, the regular process that CFTC
does, which is to have public comment, regular rulemaking.
Would you be averse to a discussion of regular rulemaking?
Mr. Bankman-Fried. So I think we have followed along with
the standard CFTC process. It is not standard to----
Ms. Plaskett. I think that they created a process that is a
little ad hoc for you, but it does not follow the regular
public comment period.
Mr. Bankman-Fried. I don't think that it is normal to have
rulemaking as part of a margin order amendment. I think that is
actually quite unusual. I think it is unusual to have a House
hearing as part of a margin amendment. I think it is unusual to
have a public roundtable. I think it is unusual to have a
public 60 day comment period. To the extent that it is unusual,
it is in the increased transparency and thoroughness of it
rather than the opposite. But I would be happy to follow up
with you after and go through cases and see what the standards
and precedents are here.
Ms. Plaskett. Thank you. And I have quite a number of other
questions, Mr. Chairman, but I will save those for in writing.
And I want to thank you again for allowing us this opportunity.
The Chairman. Yes. Thank you, Ms. Plaskett.
And now the gentleman from Texas, Mr. Cloud, is recognized
for 5 minutes.
Mr. Cloud. Thank you, Mr. Chairman, for this very
informative Committee hearing, and thank you all for
participating in it and sticking through it for this long. It
has been a lot of fun for me, maybe not so much as much for you
all, but it has been very enlightening, nonetheless. And
whoever's idea was to sit you two gentleman next to each other,
genius. No.
But it is very helpful to have the back-and-forth. So many
committee hearings it is kind of the debate is decided before
we actually get to the committee hearing, and this is one I
think where your expertise and your wisdom weighing into this
is extremely helpful to us who are trying to grasp this new
developing technology and how it would be.
Speaking of first principles right off, I am concerned
anytime about the government stepping in and picking winners
and losers. I think it is important that we don't stop what
would be disruptive technologies just because it protects the
status quo, especially when the status quo is a middleman. And
I am just speaking broadly here. But I also am very concerned
about the government stepping in and endorsing one business
model as well and what that would mean. And especially just in
the context of where we are at right now, you mentioned the
food shortages, which I wish this Committee would focus more
on. And right now we have White House more concerned about
disinformation than we do baby formula and those kind of
things. So I am very concerned about that. We need to spend
more time on that. And to have a disruptive technology in this
window is a concern to make sure that that doesn't go wrong.
If you all could help me with this, kind of entertain me,
Mr. Bankman-Fried, if I can see that correctly, and Mr. Duffy.
If you all could each kind of do this for a second. If we were
to assume that his model was going to be accepted, what would
you say, okay, let's do that but these are the provisions that
we have to consider, and likewise? If it was to not be, like,
okay, what are the considerations here about going--the future
that we are not creating, the things that we are not protecting
going forward? If you all could----
Mr. Duffy. I would be happy to start if you would like.
Mr. Cloud. Okay.
Mr. Duffy. If Mr. Bankman-Fried's model was to be accepted,
I would say a couple things. One, it needs to go through a
regular rulemaking process to answer the gentlelady's question
earlier because it is not just a margin model. This is a market
structure issue that affects the entire industry, not just
margin. So that is for starters. That is the reason why it
needs to go through a full review. So the gentlelady was
correct.
So what would happen, what I would do if in fact it got
passed, I would implement the model myself. And I do not think
it is appropriate to do at this given time. I would want to
implement the model if it was approved with the communities
that is affected throughout the globe that trade these global
markets in nature. That is critically important to make sure
that people are brought into the process and not surprised by
the process. So I am not opposing it. I am saying let's do it
in a way that makes sense for everybody.
Mr. Cloud. Yes, one of the things you mentioned, too, was
weekends seemed to be a concern that kind of came up, I mean,
one of the little pragmatic things. I know that is not a
systemic thing, but how much of that is part of----
Mr. Duffy. Systemic risk in the----
Mr. Cloud. In weekend trading.
Mr. Duffy. Oh, I am sorry, I didn't hear the weekend
trading. You know what, I guess for some people there is no
systemic risk. I know Sam likes to kind of go 7 days a week
hard. There are other people that are in our farm community and
others that need a day off and they really don't want to be
interrupted with their hedges being auto-liquidated in a time
when they are trying to at least take an hour off in their day
of providing food for the country.
Mr. Cloud. Yes, thank you.
Mr. Bankman-Fried. Thank you. So, in terms of what would
happen--and I think I want to talk less about our application
in particular. I am taking this is a policy question rather
than a competitive or anticompetitive question around like our
company in particular. I think if in general there were not to
be licensure of digital asset platforms in the United States,
we would continue to see a regime where the United States is
the only developed country that cannot access deep liquidity in
crypto markets that cannot access hedging for them. It is the
only developed world in which there is very little Federal
oversight of the digital marketplace, very little anti-fraud,
anti-market manipulation oversight, no clear Federal regulator
for the majority of the platforms, and it would mean that this
industry would continue to grow offshore rather than here with
oversight from offshore regulators, not from our regulator. It
would grow in other currencies as the base currency for the
cryptocurrency system rather than the U.S. dollar. And I think
that all of those would harm American consumers and the
American economy.
Mr. Cloud. Thank you. Mr. Lukken, I wanted to get to you
but I only have 5 seconds. I am really curious to hear your
thoughts because I have seen you nodding on all sides of this
argument, and you were the only one that I heard use ag and
livestock metaphors, and so I know this Committee really
appreciated that. So do you have a quick--okay. Thank you.
The Chairman. The gentleman from Florida, Mr. Lawson, is
now recognized for 5 minutes.
Mr. Lawson. Thank you, Mr. Chairman and Ranking Member.
This is quite interesting. Mr. Bankman-Fried, you mentioned in
your testimony that FTX would utilize real-time liquidation
features to prevent the buildup of risk in the customer
portfolio. How would this risk management and liquidation
affect market risk and asset volatility, especially during the
times of market uncertainty, as we are seeing of course
recently with what is going on in Ukraine?
Mr. Bankman-Fried. Yes, thank you for the question.
Derivatives markets can help to buffer volatility, to reduce
it, and to add liquidity. They can also help exacerbate
volatility, in some circumstances or if poorly defined. I think
that our model would help reduce volatility and increase
liquidity. And the reason for that is that by having precise
knowledge of the collateral in the system and having a fast
margin engine that can act swiftly if needed, it allows the
risk engine to avoid having to liquidate positions that might
not need to be liquidated until it becomes clear that they are
in fact nearly out of collateral while also still successfully
closing them down before an account would go bankrupt. And so I
think it does a good job of balancing against the market risk
and the systemic risk there, which is massively harder to do if
you have less transparency, less clarity, and a less fast-
acting risk system.
Mr. Lawson. Okay. Thank you very much. Mr. Perkins, I think
it was stated earlier that U.S. lagged behind other countries
in the adoption of digital assets with over 95 percent of the
trading volume currently overseas. The question is for you and
maybe some of the other panelists can speak on it. What facts
do you believe are preventing the growth of cryptocurrency
trading in the U.S., and how would Americans, particularly
farmers, benefit from these type of trading platforms?
Mr. Perkins. Thank you for the question. I think one of the
reasons why we haven't seen derivatives migrate into the U.S.,
regulated derivatives for purposes of risk management, is
because the current structure as it exists today is inadequate
to handle the volatility of the products. The risk builds up
with the FCMs, the intermediaries, and they simply don't have
the capacity to offer this hedging mechanism to clients. And to
the extent they do, they can only give it to their tippity-top
clients, which isn't very good from an inclusive perspective.
And so I welcome innovation that we are seeing like with
this direct model which does look at things such as thoughtful
risk management, inclusion, and competition, and how will this
benefit community members. I think competition will lead to
better pricing. And in fact, you are eliminating the pricing of
the intermediary, so I think it would be very beneficial to
endorse a model such as this to allow our communities to hedge
their risk.
Mr. Lawson. Anyone else on the panel who would like to make
a statement on this?
Mr. Lukken. Well, I would take a little issue with the idea
that the demise of the FCM, that they are not able to handle
access. I mean, there are plenty of firms under the current
clearing system that handle retail clients, that handle retail
crypto clients, that we have exchanges that are offering
products for crypto. So certainly this is another method for
access, but we have lots of great firms that are willing to
take on these clients in our industry.
Mr. Lawson. Okay, thank you. One other question, and this
is for Mr. Bankman-Fried, if the Commodity Futures Trading
Commission approved your proposal, do you have mechanisms and
programs in place to address the barriers small and socially
disadvantaged farmers may have to utilize this platform as an
exchange?
Mr. Bankman-Fried. Sorry, could you repeat the last bit?
Mr. Lawson. Do you have the mechanisms and programs in
place to address the barriers small and socially disadvantaged
farmers may have to utilize the platform in this exchange?
Mr. Bankman-Fried. Oh, thank you, a really important
question. I will say it is really important that we have
transparency, disclosure, education, suitability, and testing
on the platform to ensure that the users do understand it. But
at the same time it is really important that disadvantaged
communities are able to get real financial access in a way they
have not historically had an easy time doing. We offer the full
product suite. We offer it online. We offer it on a phone. We
offer it via API. We offer all the tools that you need to do
it. The compliance is built into it, but you can fund it
directly. And, we are actually overrepresented in minority
communities on our platform.
Mr. Lawson. I yield back, Mr. Chairman.
The Chairman. Thank you, Mr. Lawson.
And so, gentlemen, we come to the end of this extraordinary
and very beneficial and informative hearing. And I want to
thank each of you. We are going to do two things. I want to see
if our Ranking Member would like to make a closing statement,
and then I will make my closing statement on what we have
experienced today. And, first of all, before--oh, here is our
Ranking Member, and I was just letting them know the order.
But before that, I want to thank each of you. I want to
thank you, Mr. Terry Duffy, Chairman and Chief Executive
Officer of the CME Group. Your testimony was very, very
helpful.
I also want to thank you, Mr. Sam Bankman-Fried, who is
Chief Executive Officer and Founder of FTX US Derivatives.
Thank you for your informative and helpful presentation.
Our other witness, my friend Mr. Walt Lukken, we have
worked together over a number of years as you were Chairman of
the CFTC when I was Chairman of our Commodity Exchanges,
Energy, and Credit Subcommittee. Thank you.
And our fourth witness was Mr. Christopher Edmonds, Chief
Development Officer of the Intercontinental Exchange, which we
all affectionately call ICE.
And our fifth and final witness today, Mr. Christopher
Perkins, the President of CoinFund Management LLC, thank you
for your very helpful and beneficial presentation and
testimony.
And before I give my closing remarks, I am going to turn it
over. He is writing feverishly getting all of it down, our
distinguished Ranking Member, Mr. Thompson of Pennsylvania, and
then I will end it with my closing remarks. Ranking Member?
Mr. Thompson. Mr. Chairman, thank you so much. And to each
of the witnesses, thank you for being here. I appreciate we
were able to do a balanced hearing on an important issue.
The Chairman. Please mute your phones, please, Members.
Thank you.
Mr. Thompson. All right, thanks, Mr. Chairman.
The Commodity Futures Trading Commission is empowered to
use a transparent, principle-driven-based process to consider
any proposals, including the ones submitted that was the point
of discussion today, although we did talk a little more broadly
on, quite frankly, that process. And I think the process is the
important part of the discussion today.
I am hopeful that this transparent, principle-driven
process, the CFTC, that the discussions today may be
informative. We heard a diversity of views, and so that is my
hope, that what we heard today will help to be informative of
the process that they are engaged with this specific proposal.
CFTC must ensure that stakeholders and the public have a
seat at the table. The Agriculture Committee's role is not that
decision making. It is oversight of the CFTC, to include where
the CFTC fails to follow the appropriate process, where we have
a role. That is part of our oversight role. Where the CFTC
would deviate from the law, we have a role to play. Where the
CFTC unnecessarily limits debate, we have a role. The
Agriculture Committee has a role to play. And let's be clear,
none of this has happened. None of this has happened so far.
At the CFTC, my understanding is we have had right around
1,000 comments have been received, and when they publish for
public comments, I am assuming that some of those, a number of
those, hopefully a lot of them will be instructive and
informative in this process. The stakeholder roundtable is
scheduled for later this month, the 25th of May, so that is
much appreciated. They are going to bring experts to the table
to really kind of do an analysis of those public comments.
And, as the House Agriculture Committee, the trading of
traditional agriculture commodities obviously is critical, and
that is why CFTC was born within the U.S. Department of
Agriculture. But as we saw how effective that was, other
commodities were added under the CFTC's jurisdiction. So our
jurisdiction over the CFTC provides a responsibility for other
critical commodities, energy, gold, digital commodities. And I
have confidence in CFTC that the Commission will continue their
informed, transparent review of this proposal and all other
proposals. This is not the only proposal obviously they
received and will receive in the future. That is why making
sure the process is the way it should be, that is why it is so
important.
I would be remiss if I didn't encourage every Member of
this Committee--and this is outside of this issue--but to join
Mr. Khanna and myself as a cosponsor of H.R. 7614, the Digital
Commodity Exchange Act of 2022, that would establish effective
oversight of digital commodities, define oversight of digital
commodity markets without diminishing the innovation and the
creativity that has established, quite frankly, the United
States as a global leader in this field.
And so to the witnesses once again for your testimony and,
Mr. Chairman, thank you so much.
The Chairman. And thank you, Ranking Member, for your
excellent closing remarks.
Ladies and gentlemen, again, thank you, all five of you.
You have been extraordinarily helpful. First, I also want to
thank my committee staff, who has worked hard to pull this
together. They have done an excellent job, and I am most
grateful for their hard work on this.
What today's hearing showed us is that we have a serious,
serious issue here. What concerns me is we have to make sure
that we have the protections there for our clearinghouses
because they are the anchors for dealing with this growing
derivatives market.
The other point is that this is international. And, ladies
and gentlemen, we have enemies out here. You have Russia, you
have Iran. I guarantee you they are watching this hearing. They
are all looking for--not just them, the Revolutionary Guard of
Iran. They are looking for ways in which to weaken our
financial system. This is what makes us the greatest, most
powerful nation on this Earth. And the good Lord has blessed us
with bountiful agriculture, which is the major piece of
derivatives and swaps. They deal in commodities, and that is
why this Agriculture Committee is determined to make sure that
this is protected.
Now, this new cryptocurrency, you have heard from the
witnesses here. Everybody knows it is new, it is vulnerable, it
is going through its growing processes. Nobody is against it.
What we are for is to make sure we deal with this new
cryptocurrency with its vulnerability, with its volatility, we
have to solve that. It cannot be handled and entered into our
financial system until and unless we eliminate this
vulnerability, this uncertainty.
And so this is why I mentioned to the Chairman of the CFTC
when he was here and let us know he was dealing with this to
hold up until we could get this hearing going on. I appreciate
that. We are all in this together.
But I want you to know that we have enemies around this
world who want to destroy this nation. And the one most
vulnerable way, history is cluttered with the wreckage of great
nations because they did not protect their financial systems.
And so with that I wanted you to know the importance of this
hearing, and you all have delivered to us valuable information.
And this Committee, as you heard from the questions and the
differentiation, are very much concerned that, as we go down
this road, we go down it with the understanding that the future
of our nation's security is in our hands.
Thank you all very much, and I look forward to working with
each and every one of you as we move forward. Thank you. Oh,
now, thank you for that. I must take care of this business
before we go.
Under the Rules of the Committee, the record of today's
hearing will remain open for 10 calendar days to receive
additional material and supplementary written responses from
the witnesses to any question posed by a Member.
Therefore, this hearing of the Committee on Agriculture is
adjourned. Thank you all very much.
[Whereupon, at 1:00 p.m., the Committee was adjourned.]
[Material submitted for inclusion in the record follows:]
Submitted Material by Hon. David Scott, a Representative in Congress
from Georgia
the ftx proposal--ledgerx llc d/b/a ftx us derivatives
Item 01_CFTC Press Release
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
[https://www.cftc.gov/PressRoom/PressReleases/8499-22]
Release Number 8499-22
CFTC Seeks Public Comment on FTX Request for Amended DCO Registration
Order
March 10, 2022
Washington, D.C.--The Commodity Futures Trading Commission (CFTC)
has received inquiries from derivatives clearing organizations (DCO) or
potential DCO applicants seeking to offer clearing of margined products
directly to participants, such that participants would not clear
through a futures commission merchant intermediary (non-intermediated
model). Currently before the CFTC is a formal request from LedgerX, LLC
d.b.a. FTX US Derivatives (FTX) to amend its order of registration as a
DCO to allow it to modify its existing non-intermediated model. FTX
currently operates a non-intermediated model and clears futures and
options on futures contracts on a fully collateralized basis. In its
request for an amended order of registration, FTX proposes to clear
margined products for retail participants while continuing with a non-
intermediated model.
The CFTC is seeking public comment on FTX's request, including both
on specific questions and policy issues raised by use of a non-
intermediated model in this manner. The questions are available
here.\1\ CFTC recommends potential commenters to review FTX documents
at this link \2\ as you are considering your comments. Comments may be
submitted electronically through the CFTC's Comments Online \3\
process. All comments received will be posted on the CFTC website.
Comments should be submitted on or before April 11, 2022.
---------------------------------------------------------------------------
\1\ https://www.cftc.gov/media/7031/CommentFTXAmendedOrder/
download.
\2\ https://sirt.cftc.gov/sirt/
sirt.aspx?Topic=CommissionOrdersandOtherActionsAD&Key=47841.
\3\ https://comments.cftc.gov/PublicComments/
CommentList.aspx?id=7254.
---------------------------------------------------------------------------
Item 02_CFTC Press Release
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
[https://www.cftc.gov/PressRoom/PressReleases/8505-22]
Release Number 8505-22
CFTC Extends Public Comment Period on FTX Request for Amended DCO
Registration Order
March 24, 2022
Washington, D.C.--The Commodity Futures Trading Commission is
extending the deadline for the public comment period on a request from
LedgerX, LLC d.b.a. FTX US Derivatives (FTX) to amend its order of
registration as a derivatives clearing organization (DCO).
FTX currently offers clearing of futures and options on futures
contracts on a fully collateralized basis directly to retail
participants (non-intermediated model). In its request for an amended
order of registration, FTX proposes to clear margined products for
retail participants while continuing with a non-intermediated model.
On March 10, 2022, the CFTC announced that it is seeking public
comment on FTX's request, on both specific questions as well as policy
issues raised by use of a non-intermediated model in this manner. The
CFTC is extending the deadline by which comments must be received by 30
days, such that comments should now be submitted on or before May 11,
2022.
The CFTC is seeking public comment on FTX's request, including both
on specific questions and policy issues raised by use of a non-
intermediated model in this manner. The questions are available
here.\1\ CFTC recommends potential commenters to review FTX documents
at this link \2\ as you are considering your comments. Comments may be
submitted electronically through the CFTC's Comments Online \3\
process. All comments received will be posted on the CFTC website.
Comments should be submitted on or before April 11, 2022.
---------------------------------------------------------------------------
\1\ https://www.cftc.gov/media/7031/CommentFTXAmendedOrder/
download.
\2\ https://sirt.cftc.gov/sirt/
sirt.aspx?Topic=CommissionOrdersandOtherActionsAD&Key=47841.
\3\ https://comments.cftc.gov/PublicComments/
CommentList.aspx?id=7254.
---------------------------------------------------------------------------
Item 03_February 8, 2022 Letter from Julie L. Schoening, Ph.D., Chief
Risk Officer, FTX US Derivatives to CFTC
February 8, 2022
Via Email
Mr. Clark Hutchison,
Director, Division of Clearing & Risk,
Commodity Futures Trading Commission,
Three Lafayette Centre,
1155 21st Street, N.W.,
Washington, D.C. 20581
Re: Financial Resource Requirements under Core Principle B and CFTC
Regulation 39.11(a)(1) in the Absence of Clearing Futures
Commission Merchants (``FCMs'')
Dear Mr. Hutchison:
FTX US Derivatives (``FTX'') seeks to clear derivatives products
that are not fully collateralized through a direct access market for
both retail and institutional participants. In doing so, FTX plans to
leverage its experience offering exchange and clearing services
directly to market participants. Instead of weighing the credit
worthiness of chains of intermediaries, FTX will margin all products
directly against each market participant, which enables FTX to know and
manage the precise amount of risk held by each portfolio, as well as by
all portfolios in aggregate, at any given moment. FTX deploys a
sophisticated real-time risk management system to support derivatives
on cash markets that are always open, and commits to $250 million in
dedicated, unencumbered cash to cover any remaining risk to the
clearing house or its customers.\1\
---------------------------------------------------------------------------
\1\ As set forth in Exhibit G to the FTX application for an
amendment to its Amended Clearing Order, FTX also relies on other
default resources.
---------------------------------------------------------------------------
Historically, clearinghouses have sought to manage their
counterparty credit risk, in part, by mutualizing that risk among a
relatively small number of clearing futures commission merchants
(``FCMs''), who in turn managed the direct relationships with their
much more numerous clients. Naturally, this created a relationship of
reliance on those clearing FCMs to support the resilience of the
clearinghouse. As a result, clearinghouses have been required to hold
reserves against the possibility that such clearing FCMs themselves may
default on their obligations, thereby requiring the clearinghouse to
intercede.
Section 5b of the Commodity Exchange Act (``CEA'') sets forth
various core principles in the regulation of derivatives clearing
organizations (``DCOs''), which have been implemented by the Commodity
Futures Trading Commission (``CFTC'') in Part 39 of the CFTC
regulations. One of those core principles, namely Core Principle B,
describes the minimum financial resources required of a DCO to ensure
its financial resilience. Those requirements, however, likely
presuppose a relatively small number of large FCM clearing members. The
following analysis, therefore, describes the standard in existing law
for calculating minimum financial resources a DCO is required to
maintain, and explores how those standards might be viewed with respect
to a clearinghouse that utilizes a direct-access model without clearing
FCMs, but that is nonetheless likely to have large direct-access
clearing members.
A. Legal Standard
The Commodity Exchange Act (``CEA'') establishes both general and
specific financial resources requirements for CFTC regulated
clearinghouses in DCO Core Principle B. Generally, each DCO is required
to have ``adequate financial, operational, and managerial resources, as
determined by the Commission, to discharge each responsibility of the
derivatives clearing organization.'' See CEA 5b(c)(2)(B)(i).
Additionally, a DCO is required to possess financial resources that,
``at a minimum, exceed the total amount that would--(I) enable the
organization meet its financial obligations to its members and
participants notwithstanding a default by the member or participant
creating the largest financial exposure for that organization in
extreme but plausible market conditions . . . .'' See CEA
5b(c)(2)(B)(ii). This specific requirement is generally referred to as
``Cover-1,'' and is memorialized in CFTC Regulation 39.11(a)(1).
Additionally, CFTC Regulation 39.11(c)(1) grants DCOs ``reasonable
discretion in determining the methodology used to compute such require-
ments . . . .'' By contrast, a systemically important DCO is required
to cover the default of ``the two clearing members creating the largest
combined loss to the derivatives clearing organization in extreme but
plausible market conditions'', otherwise known as the ``Cover-2''
standard. See CFTC Reg. 39.33(a)(1).
B. Proposed Methodology for Computing FTX Guaranty Fund Requirements
Although FTX does not have clearing FCMs, it does nonetheless have
large, institutional direct-access members. In an abundance of caution,
FTX proposes to account for the possibility that FTX's largest direct-
access clearing member could be smaller than the largest clearing FCM
at a comparable clearinghouse. FTX proposes to calculate its minimum
financial obligations under CFTC Regulation 39.11(a)(1) using the
following methodology: FTX will calculate the amount needed to meet its
financial obligations to members and participants notwithstanding the
default of: (a) the single largest clearing member (i.e., the Cover-1
amount); or (b) if Cover-1 is less than 10% of total initial margin
(``IM'') at the clearinghouse, then the two largest clearing members
(i.e., the Cover-2 amount); or (c) if Cover-2 is less than 10% of IM,
then the three largest clearing members (i.e., the Cover-3 amount).
FTX's Guaranty Fund (GF) minimum sizing methodology explicitly
meets or exceeds the regulations in 39.11 and conforms with the CFTC's
principles based regulatory framework. The method starts by calculating
the regulatory standard Cover-1 requirement. The Cover-1 standard sizes
the GF to allow the DCO to continue operations even if the largest
single participant defaults in an extreme but plausible scenario. FTX's
largest exposure may be smaller than what is envisioned by the
regulations due to the absence of clearing FCMs; however, FTX's largest
clearing members are still highly likely to be institutional, rather
than retail participants. Nonetheless, to allow for the possibility
that such institutional clearing members could possibly be smaller than
the largest clearing FCMs, we compare the percent of Initial Margin
(IM) the Cover-1 entity is required to post relative to the total IM
required from all participants. If the largest FTX clearing member
holds less than 10% of the total IM at the DCO, FTX moves to a Cover-2
standard. The Cover-2 standard is outlined in Subpart C of CFTC
Regulations, specifically CFTC Regulation 39.33, and requires that
certain important or complex DCOs can absorb the joint default by the
two clearing members creating the largest combined financial exposure,
again in an extreme but plausible scenario. As yet another layer of
protection for the clearinghouse, if the Cover-2 entities combined hold
less than 10% of the total IM at the DCO, FTX will then move to a
Cover-3 standard, which is more conservative than current CFTC
regulations.
C. Appropriateness of FTX's Cover-1 Proxies
FTX is taking an innovative approach to determine the minimum size
of the GF to meet the letter and the spirit of CFTC regulations. The
regulations balance the severity versus the likelihood of default
scenarios on DCO operations. Regulation 39.11 specifies Cover-1 as the
standard requirement for a DCO's GF sizing. Cover-1, which assumes the
largest exposure defaults in an extreme but plausible scenario, is a
reasonable and conservative benchmark; if the DCO can cover the largest
single default in an extreme event, any lesser default will not
threaten the DCO's ability to operate.
Increasing the number of the largest participants that are assumed
to default at the same time makes a scenario more extreme but naturally
decreases the plausibility of such a scenario. If a DCO is large and/or
complex as specified in Sub Part C, a Cover-2 standard may apply which
further increases the conservativeness of the GF size. Here the CFTC
has determined that, while the likelihood of the largest two entities
defaulting at the same time in the worst case scenario is even less
than Cover-1, this exceptional coverage is warranted if the DCO is
important enough.
FTX's GF methodology considers not only Cover-1 and Cover-2 but
also allows for a highly conservative Cover-3 sizing. The regulations
do not explicitly consider Cover-3, likely because of the low
probability of such a default event in a traditional, intermediated-
clearing model. FTX's adoption of a Cover-3 standard for sizing the GF
is conservative and exceeds the regulations, given the low probability
of such a scenario. Note that the largest participants on FTX are
highly unlikely to be retail participants, but instead large
institutional participants.
To determine whether FTX should consider additional participants in
the GF sizing calculation (e.g., moving from Cover-1 to Cover-2 to
Cover-3), we consider how much IM the participants are required to post
relative to the total IM at the DCO. This metric proxies what a Cover-1
might look like at a more traditional DCO operating with an
intermediated-clearing model.
The following analysis shows that 10% of IM is a conservative
estimate of the percent of IM that a Cover-1 participant might post at
a traditional DCO. The analysis uses information from the CPMI-IOSCO
Quantitative Disclosures for major Central Counterparties (CCPs), which
is a more generic term that includes DCOs, in Q3 of 2021.
----------------------------------------------------------------------------------------------------------------
Field IM ACCOUNTS CME \2\ ICUS \3\ ICEU \4\ OCC \5\
----------------------------------------------------------------------------------------------------------------
6.1.1 House Account IM (mm USD) $32,027 $8,129 $11,978 $24,451
\2\ See
https://
www.cmegro
up.com/
clearing/
cpmi-iosco-
reporting.
html.
\3\ See
https://
www.theice
.com/
clearing/
quarterly-
clearing-
disclosure
s.
\4\ See id.
\5\ See
https://
www.theocc
.com/Risk-
Management/
PFMI-
Disclosure
s.
6.1.1 Client Gross IM (mm USD) $132,135 $15,445 $61,348 $2,518
6.1.1 Client Net IM (mm USD) $0 $0 $17,114 $88,078
6.1.1 Total IM (mm USD) $164,162 $23,574 $90,440 $115,047
18.1.1.1 Clearing Members 40 30 65 107
-------------------------------------------------------------
Clearing Member Margin %.................................. 20% 34% 13% 21%
----------------------------------------------------------------------------------------------------------------
For each clearinghouse shown above, all the clearing members' house
positions combined represent between 13% and 34% of the total margin
posted. This is determined by taking the House Account IM and dividing
it by the Total IM at the relevant CCP. What might reasonably be
considered the largest 40 accounts combined at CME only hold 20% of the
total IM at that clearinghouse. Similar ratios are seen at the other
relevant clearinghouses presented. Thus, it is not likely that the
largest single participant at any of these clearinghouses holds 10% of
total IM. This analysis suggests that the 10% threshold selected by FTX
is an appropriate and conservative measure to determine if additional
coverage participants are warranted.
FTX's proposed approach to calculate the minimum GF size will meet
the Cover-1 requirement at a minimum and likely exceed it. The above
analysis shows that covering 10% of IM is a conservative proxy for what
could be considered a large clearing member at a traditional DCO and
may represent a larger percentage than any current clearing member at
the DCOs discussed above. Further, sizing the GF to cover up to the
three largest simultaneous exposures is more conservative than current
regulations require. FTX believes, therefore, that its GF methodology
is appropriate and innovative and in the spirit of the CFTC's history
of principles based and prudent risk management.
Thank you for considering our proposed methodology, and we would
welcome any questions or comments the CFTC may have in that regard.
Sincerely,
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Julie L. Schoening, Ph.D.,
Chief Risk Officer, FTX US Derivatives.
FTX Letter re Financial Resource Requirements 2022-02-08
Final Audit Report 2022-02-09
Created: 2022-02-09
By: Brian Mulherin ([email protected])
Status: Signed
Transaction ID: CBJCHBCAABAA2jq6lrMvxCnj3W1x6boNmlehr0j3ah1f
``FTX Letter re Financial Resource Requirements 2022-02-08'' History
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Document created by Brian Mulherin ([email protected])
2022-02-09--4:05:55 AM GMT
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Document emailed to JLSchoening ([email protected]) for signature
2022-02-09--4:06:52 AM GMT
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Email viewed by JLSchoening ([email protected])
2022-02-09--4:11:37 AM GMT--IP address: 66.102.8.9
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Document e-signed by JLSchoening ([email protected])
Signature Date: 2022-02-09--4:12:25 AM GMT--Time Source: server--IP
address: 216.164.61.101
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Agreement completed.
2022-02-09--4:12:25 AM GMT
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Item 04_February 8, 2022 Letter from Brian G. Mulherin, General
Counsel, FTX US Derivatives to CFTC
February 8, 2022
Via Email
Mr. Clark Hutchison,
Director, Division of Clearing & Risk
Commodity Futures Trading Commission
Three Lafayette Centre
1155 21st Street, N.W.
Washington, D.C. 20581
Re: Permissibility and Benefits of Direct Clearing Model under the
Commodity Exchange Act and CFTC Regulations
Dear Mr. Hutchison:
LedgerX LLC, d/b/a FTX US Derivatives (``FTX''), recently submitted
an application requesting that the Commodity Futures Trading Commission
(``CFTC'') amend its Amended Order of Registration as a derivatives
clearing organization (``DCO''), thereby allowing FTX to offer margin
directly to customers. In support of that application, FTX offers the
following explanation of how this approach, which would not rely on
intermediation, is permitted by the Commodity Exchange Act (the
``CEA'') and CFTC Regulations. FTX will also demonstrate how its
proposed risk management framework is comparable to the clearing-
related requirements imposed on clearing futures commission merchants
(``FCMs'').
As set forth below, FTX plans to lead futures markets in the United
States into the 21st century, without compromising traditional risk
management, customer protection, or systemic risk mitigation
expectations. With dramatic improvements in technological
infrastructure over the past twenty years, companies such as FTX are
now able to provide their customers with direct access to exchange and
clearing services, as FTX has now done for several years. FTX aims to
build on these technological advancements by offering margin directly
to its customers.
FTX fully appreciates the risks that arise from offering margin and
plans to implement the following risk management standards that will
exceed historical expectations. First, instead of relying on
traditional weekly margin calculations, FTX will assess its customers'
abilities to meet their margin requirements approximately once per
second. Second, by operating 24 hours a day, 7 days a week, 365 days a
year, FTX can implement real-time market monitoring tools to
immediately react to market changes and avoid major risks to
clearinghouse stability. Third, FTX will remove friction, delay, and
reduce operational risk in the assessment and timely derisking of
accounts, as appropriate, through direct interactions with customers.
Finally, to support the resilience of our clearinghouse, FTX will rely
on backstop liquidity providers and the $250 million in unencumbered
cash it has contributed to its Guaranty Fund--one of the largest self-
funded cash contributions for a derivatives clearinghouse in the United
States.
While FTX understands that historical market practices envisioned
an intermediated marketplace where brokers interfaced directly with
customers, the CEA does not mandate a one-size fits all approach. As we
look to the future of regulated derivatives markets, crypto-asset
platforms and other nascent exchanges have pursued a direct-membership
model where investors onboard directly to the trading and clearing
platforms, and not through an intermediary or broker.\2\ * The
traditionally manual modes of interacting with markets, intermediated
or not, have largely been replaced with technology that provides
immediate, direct access. These technological developments have enabled
the use of automated or programmed strategies for faster and more
efficient trading decisions. By utilizing this technology, FTX and
others already directly provide services to customers who do not have
the infrastructure or relationships to support the involved clearing
mechanisms other firms require.\3\ In other words, the direct-access
model democratizes futures trading access.
---------------------------------------------------------------------------
\2\ See FTX's Key Principles for Market Regulation of Crypto-
Trading Platforms, available at https://blog.ftx.com/policy/
ftx_key_principles/.
* Editor's note: there is no footnote 1 in this submission. It has
been reproduced herein as submitted.
\3\ See Eris Exchange, LLC, KalshiEx LLC, and Nadex.
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Having operated a direct-access exchange and clearinghouse without
intermediaries for several years now, FTX has already developed DCO
operations that often exceed or are comparable to key FCM duties
prescribed by CFTC Regulations, including: (a) maintenance of adequate
financial resources; (b) safeguarding customer money, securities, and
other property; and (c) implementing appropriate eligibility access
criteria.\5\ * Additionally, other clearing-related functions
traditionally performed by FCMs, including know your customer (``KYC'')
and anti-money laundering (``AML'') functions,\6\ are currently
performed by FTX.\7\ For other clearing-related requirements, the FTX
clearinghouse is also already subject to an enhanced set of regulations
relative to an FCM, such as the CFTC's rigorous systems safeguards
regime related to cybersecurity and other operational risks\8\ and
recordkeeping requirements.\9\
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\5\ While FTX is currently seeking an amendment only to its DCO
order of registration, and the focus of this analysis is on clearing-
related duties, a comprehensive list of both clearing and exchange-
related FCM duties and requirements prescribed by both CFTC regulations
and NFA rules may be found here: NFA Regulatory Requirements for FCMs,
IBs, CPOs, and CTAs (August 2021), https://www.nfa.futures.org/members/
member-resources/files/regulatory-requirements-guide.pdf.
* Editor's note: there is no footnote 4 in this submission. It has
been reproduced herein as submitted.
\6\ See CFTC Regulation 42.2 and NFA Interpretive Notice 9045--NFA
Compliance Rule 2-9: FCM and IB Anti-Money Laundering Program; NFA
Interpretive Notice 9070--NFA Compliance Rules 2-9, 2-36, and 2-49:
Information Systems Security Programs.
\7\ For example, both Eris Clearing LLC and FTX are required to
comply with the Bank Secrecy Act, the International Emergency Powers
Act, the Trading with the Enemy Act, and any Executive Orders and
regulations issued thereto, as a condition of their DCO Orders of
Registration. See Eris Clearing, LLC DCO Registration Order (Nov. 2,
2020) and LedgerX, LLC Amended Order of DCO Registration (September 2,
2020).
\8\ CFTC Regulation 39.18.
\9\ DCO Core Principle K and CFTC Regulation 39.20 set forth
clearing-related recordkeeping requirements comparable to those imposed
on FCMs through CFTC Regulation 1.36.
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With this application to amend its DCO registration, FTX seeks to
build on its years of experience of offering direct access by offering
margin directly to its customers, without clearing FCMs. For the
benefit of the CFTC and the public, FTX provides the following summary
of: (I) the risk management process for FTX's non-intermediated model;
(II) how FTX intends to perform relevant clearing functions that an FCM
traditionally undertakes; and (III) trading-related functions that an
FCM may perform that FTX believes to be outside the scope of this
request to amend its clearing order.
I. DCO Risk Management With A Direct-Access Business Model
Building on years of experience offering exchange and clearing
services directly to customers, FTX now also seeks to extend margin
directly to its customers. Although the traditional clearinghouse model
has resulted in the risk of margin mutualized among DCO clearing
members, the CEA does not require this historical business practice.
Rather, the CEA merely requires that DCOs manage their risks
appropriately. FTX aims to manage such risks by monitoring its
customers' positions in real-time and taking appropriate and timely
action to de-risk accounts in default in the following manner. First,
FTX will seek to liquidate a position on FTX's central limit order book
(``CLOB''), which remains open at all times.\10\ If that is not
practicable, FTX will attempt to lay off positions with backstop
liquidity providers. Finally, FTX will use its reserve of $250 million
in unencumbered cash to cover any remaining residual risk to the
clearinghouse or its customers. At the end of the waterfall, in the
unlikely event the Guaranty Fund is exhausted, traditional DCO default
management tools will be available.
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\10\ An FCM's or broker-dealer's authority to liquidate a
customer's account that is in default is well-established under Federal
securities and commodities laws. See, e.g., In re MF Global Inc., 531
B.R. 424, 435-36 (Bankr. S.D.N.Y 2015); Moss v. J.C. Bradford and Co.,
337 N.C. 315, 326-27 (1994) (``In light of the fact that rules
governing margin calls and account liquidation are for the protection
of the merchant and commodities exchange itself, we interpret the
Federal regulatory scheme in the area of futures trading, including CME
Rule 827, to permit the liquidation of a customer's account without
prior demand or notice.'').
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A. DCOs are not required to mutualize risk among intermediaries
While many DCOs mutualize losses among clearing members (typically
FCMs), this practice is not required by the CEA. Under Section 1a(15)
of the CEA, ``derivatives clearing organization'' is defined as ``a
clearinghouse, clearing association, clearing corporation, or similar
entity, facility, system, or organization that, with respect to an
agreement, contract, or transaction'' that satisfies one of the
following three disjunctive prongs:
(i) enables each party to the agreement, contract, or
transaction to substitute, through novation or otherwise, the
credit of the derivatives clearing organization for the credit
of the parties;
(ii) arranges or provides, on a multilateral basis, for the
settlement or netting of obligations resulting from such
agreements, contracts, or transactions executed by participants
in the derivatives clearing organization; or
(iii) otherwise provides clearing services or arrangements
that mutualize or transfer among participants in the
derivatives clearing organization the credit risk arising from
such agreements, contracts, or transactions executed by the
participants.\11\
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\11\ CEA 1a(15)(A) (emphasis added).
Significantly, only the third prong refers to the mutualization of
credit risk among clearing members. Because a clearinghouse only needs
to satisfy one of the above three disjunctive prongs of the DCO
definition, a DCO is not required to adopt a business model that
mutualizes default risks among clearing members. This is supported by
the CFTC's own statements: ``The Commission is of the view that each
DCO should be afforded an appropriate level of discretion in
determining how to operate its business within the legal framework
established by the CEA, as amended by the Dodd-Frank Act.'' \12\
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\12\ Derivatives Clearing Organization General Provisions and Core
Principles (``DCO Final Rule''), 76 Fed. Reg. 69334, 69,335 (Nov. 8,
2011).
---------------------------------------------------------------------------
B. The FTX direct-access model offers an innovative means to monitor
and manage risks more effectively
Section 5b(c)(2)(D) of the CEA, implemented through CFTC Regulation
39.13, requires each DCO to ensure that it possesses the ability to
manage the risks associated with discharging the responsibilities of
the DCO through the use of appropriate tools and procedures, including
written policies, procedures, and controls that establish an
appropriate risk management framework, and is approved by the DCO's
board of directors. At a minimum, the framework must clearly identify
and document the range of risks to which the DCO is exposed, address
the monitoring and management of the entirety of those risks, and
provide a mechanism for internal audits.
CFTC Regulation 39.13 gives DCOs discretion, within specified
limits, in setting, modeling, validating, reviewing and back-testing
margin requirements.\13\ In implementing the risk management framework,
a DCO must appoint a chief risk officer to make appropriate
recommendations to the DCO's risk management committee or board of
directors regarding the DCO's risk management functions. Accordingly,
``a DCO should adopt a comprehensive and documented risk management
framework that addresses all of the various types of risks to which it
is exposed and the manner in which they may relate to each other.''
\14\ A sufficient risk management framework should include a daily
assessment of the DCO's adequacy of its initial margin requirements,
valuation of the initial margin assets, back-testing of products that
are experiencing significant market volatility, and conducting of
stress tests with respect to each large trader who poses significant
risk.
---------------------------------------------------------------------------
\13\ Id. at 69365-76.
\14\ DCO Final Rule, 76 Fed. Reg. at 69363.
---------------------------------------------------------------------------
Additionally, FCM risk management requirements are very similar to
those imposed on DCOs. CFTC Regulation 1.11 requires each FCM to
establish, maintain, and enforce a system of risk management policies
and procedures designed to monitor and manage the risks associated with
the activities of the FCM. The FCM's risk management unit must give
quarterly risk exposure reports to senior management and the CFTC. For
FCMs that act as clearing members of a DCO, the CFTC adopted Regulation
1.73. Under CFTC Regulation 1.73, a clearing FCM is required to: (i)
evaluate its ability to meet initial and variation margin requirements
at least once per week; (ii) evaluate its ability to liquidate
positions in an orderly manner at least once per quarter; and (iii)
test lines of credit once per year.
When comparing the risk management standards imposed on DCOs and
FCMs, FTX believes that a direct clearing participant of a DCO will
receive comparable protections to an FCM's customers. Notwithstanding
the comparability of DCO and clearing FCM risk management requirements,
in practice, FTX proposes to monitor and manage customer risk in a more
stringent fashion than is required by either regime, as described in
the proposed default rules and Exhibit G.
In addition to the traditional risk management functions that FTX
will be performing, the following are some noteworthy examples of
improvements on traditional risk management practices that FTX will
implement:
FTX will rely only on collateral deposited with FTX when
evaluating its risk exposure, as opposed to holistic credit
checks that rely on information, such as a person's worth,
occupation, credit score, and other information that may be
stale at any particular point in time.
FTX will measure all participant account values in real-
time, as opposed to periodic snapshots.
Settlement variation margin will be exchanged on a near
real-time basis to avoid the accumulation of large losses over
time.
FTX will factor concentration and liquidity risks into
initial margin requirements.
FTX will stress test liquidity needs daily to ensure
adequacy of resources.
When participant positions fall below the maintenance margin
threshold, FTX will liquidate positions rapidly, intra-day on
the CLOB.
If FTX is unable to liquidate a position on the CLOB, FTX
will resort immediately to agreements with backstop liquidity
providers who agree to accept a pre-negotiated volume of
liquidation orders over a specified timeframe.
If the backstop liquidity providers cannot cure a
participant's shortfall, FTX will draw from its $250 million
reserve fund capitalized by unencumbered cash to cover any
remaining risk to the clearinghouse or its customers.
C. To reserve against defaults by participants, FTX will utilize
backstop liquidity providers and $250 million of its own
capital
As FTX intends not to rely on clearing FCMs or otherwise require
that its participants mutualize the risk to the clearinghouse, FTX does
have resources beyond liquidating positions on its CLOB to manage
margin risk.
Following reasonable efforts to liquidate positions on the CLOB,
FTX proposes a ``backstop liquidity provider program,'' which will
effectively mutualize a portion of the clearing risk among a select
group of professional traders who can absorb and lay-off risk that may
be temporarily difficult to resolve in the open market. To serve as a
backstop liquidity provider, a trader will need to meet certain
criteria. For example, the trader must agree to provide a certain
minimum amount of backstop liquidity to be available on a 24/7 basis,
and to provide initial and variation margin payments within a short
period of time. In addition to these providers, other holders of large
positions will be able to serve as secondary backstop liquidity
providers. In the event clearing member defaults result in account
deficits, however, FTX will then rely primarily on $250 million of its
own unencumbered capital to manage margin risks.
II. Having Successfully Operated A Direct-Access Exchange and DCO for
Several Years, FTX Has Already Proven Its Ability To Perform
Many Functions Traditionally Undertaken by FCMs
A. FTX maintains considerable financial resources and reports to the
CFTC routinely
The financial stability of a DCO, or an FCM, is based upon the
premise that the entity has and maintains adequate financial resources
to remain operational, and to meet its obligations to customers,
clearing members, and operational costs. Pursuant to Section 4f(b) of
the CEA, an FCM must meet certain minimum financial requirements
prescribed by the CFTC. Furthermore, CFTC Regulation 1.17 sets forth
adjusted net capital requirements for FCMs. For an FCM that is not a
broker-dealer, a security-based swap dealer, or a security-based major
swap participant, the FCM must maintain adjusted net capital equal to,
or exceeding the greater of: (i) $1 million or (ii) the FCM's risk-
based capital requirement (i.e., 8% of the total risk margin
requirement for positions carried by the FCM in customer accounts and
non-customer accounts).
Similarly, for a DCO to meet Section 5b(c)(2)(B) of the CEA and
CFTC Regulation 39.11, the DCO must have adequate financial,
operational, and managerial resources ``as determined by the
Commission'' to discharge each responsibility of the DCO. A more
quantitative metric of this requirement is that the DCO must possess
financial resources that exceed the total amount that would enable the
DCO to meet its financial obligations to its clearing members
notwithstanding a default by its largest member, based on the value of
the DCO's own capital, guaranty fund deposits, default insurance, and
certain assessments of additional guaranty fund contributions. The DCO
must also possess financial resources, limited to its own capital, that
exceed the total amount that would enable the DCO to cover operating
costs for one year. Notably, the Commission declined to adopt a minimum
capital requirement for DCOs. Instead, the Commission emphasized that
it is appropriate ``to provide flexibility to DCOs in designing their
financial resources structure so long as the aggregate amount is
sufficient.'' \16\ *
---------------------------------------------------------------------------
\16\ Id. at 69347.
* Editor's note: there is no footnote 15 in this submission. It has
been reproduced herein as submitted.
---------------------------------------------------------------------------
To this point, as described above, FTX has committed $250 million
of its own unencumbered capital to meet its obligations as a DCO in the
event of a participant's default. Although some clearinghouses rely
upon guaranty fund deposits and assessments from clearing members to
meet their financial resources obligations, the Commission has provided
DCOs flexibility with meeting the financial resources requirement, so
long as the resources are permissible. For example, ICE NGX, which
operates a direct clearing model, relies upon participant collateral, a
guarantee fund in the form of a letter of credit, cash, and default
insurance to meet its financial obligations under DCO Core Principle
B.\17\
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\17\ See https://www.theice.com/ngx/clearing-settlement.
---------------------------------------------------------------------------
Furthermore, as a registered Designated Contract Market (``DCM'')
and DCO, FTX is also subject to robust systems safeguard
requirements.\18\ To satisfy these requirements, FTX has adopted a
comprehensive system safeguard program designed to identify and
minimize operationalize risk. FTX has also implemented controls
relating to information security, including controls related to: access
to systems and data; user and device identification and authentication;
vulnerability management; penetration testing; business continuity and
disaster recovery processes; and security incident response and
management, among others.
---------------------------------------------------------------------------
\18\ CFTC Regulations 38.1050-51; Regulation 39.18.
---------------------------------------------------------------------------
B. FTX has a track record demonstrating protection of customer
money,securities, and property
One of the CEA's fundamental components is the protection of
customers, and the safeguarding of customer money, securities or other
property pledged to margin, guarantee, or secure trades or contracts.
Section 4d of the CEA directs FCMs to segregate customer money,
securities, and other property from its own assets. Section 4d(a)(2) of
the CEA requires an FCM to treat and deal with futures customer funds
as belonging to the futures customer, and prohibits an FCM from using
customer funds to margin or extend credit to any other person. Further,
CFTC Regulation 1.20 requires that an FCM must separately account for
all futures customer funds and segregate such funds as belonging to its
futures customers. Account names must clearly identify customer funds
as the futures customer funds and show that such funds are segregated
as required by sections 4d(a) and 4d(b) of the CEA and by CFTC
regulations. An FCM may deposit futures customer funds, subject to the
risk management policies and procedures of the futures commission
merchant required by CFTC Regulation 1.11 with: (1) a bank or trust
company; (2) a DCO; or (3) another FCM.
DCOs are subject to other comparable obligations to those set forth
in Section 4d of the CEA; namely, CFTC Regulation 39.15 requires the
DCO file rules for CFTC approval related to the commingling of DCO and
clearing member customer positions, as well as rules on money,
securities, or property received by the DCO to margin, guarantee, or
secure such positions. The DCO's rules must, for example, identify the
products that would be commingled, analyze the risk characteristics of
the eligible products, and analyze the liquidity of the respective
markets for eligible products.
Under FTX Rule 7.3, FTX separately accounts for and segregates all
participant funds used to purchase, margin, guarantee, secure, or
settle Company Contracts from FTX's proprietary funds. In doing so, FTX
maintains a proprietary account that will be credited with fees or
other payments owed to a participant that are debited as a result of
trades and settlements of Company Contracts. FTX maintains a record of
each participant's account balances and Company Contracts, and is
prohibited from holding, using, or disposing of except as belonging to
participants.
C. FTX has implemented eligibility criteria that promote free and open
access and protect against undue risk
Section 5b(c)(2)(C) of the CEA requires a DCO to have appropriate
admission and continuing eligibility standards (including sufficient
financial resources and operational capacity) for members of, and
participants in, the DCO. CFTC Regulation 1.3 defines ``clearing
member'' as ``any person that has clearing privileges such that it can
process, clear and settle trades through a derivatives clearing
organization on behalf of itself or others. The derivatives clearing
organization need not be organized as a membership organization.'' \19\
Under this definition, all of FTX's participants will qualify as
``clearing members.''
---------------------------------------------------------------------------
\19\ 17 CFR 1.3.
---------------------------------------------------------------------------
CFTC Regulation 39.12 requires these participant eligibility
criteria to be objective, publicly disclosed, and risk-based.
Specifically, CFTC Regulation 39.12(a)(2) requires that clearing
members have access to sufficient financial resources to meet
obligations arising from participation in the DCO in extreme but
plausible market conditions. The DCO must also maintain appropriate
standards for determining the eligibility of agreements, contracts, or
transactions submitted to the DCO for clearing. Furthermore, the DCO
must have procedures to verify, on an ongoing basis, the compliance of
each participation and membership requirement of the DCO.
The CFTC explained that the participant eligibility requirements in
CFTC Regulation 39.12(a)(1) satisfy ``the dual Congressional mandate to
provide for fair and open access while ensuring that such increased
access does not materially increase risk.'' \20\ The CFTC emphasized
that the rule provides a DCO with discretion to balance restrictions on
participation with legitimate risk management concerns.\21\ In this
regard, the CFTC found that the DCOs are ``in the best position in the
first instance to determine the optimal balance.'' \22\
---------------------------------------------------------------------------
\20\ DCO Final Rule, 76 Fed. Reg. at 69353.
\21\ Id.
\22\ Id.
---------------------------------------------------------------------------
FTX's membership criteria for participants are fully aligned with
the Congressional mandate to provide for fair and open access to
clearing services in a manner that is consistent with prudent risk
management. FTX's real-time monitoring of participant positions enables
it to determine, at all times, whether a participant's account has
sufficient cash and collateral to meet its margin obligations to the
DCO. In the event an account does not have sufficient financial
resources, FTX will immediately begin to liquidate the participant's
position until the amount of funds in the participant account is equal
to its margin obligations to the DCO. Because FTX monitors participant
accounts 24/7 and liquidates underfunded positions in realtime, there
is no need to establish minimum capital requirements for each
participant. Instead, FTX's risk management framework enables it to
ensure at all times that each participant has sufficient financial
resources to meet its current obligations arising from participation in
the DCO.
In addition, FTX's membership requirements will advance many of the
policy considerations underlying CFTC Regulation 39.12, including
promoting competition and liquidity. FTX anticipates that its
participants will be diverse, encompassing traders and investors with
varying investment objectives, risk tolerances, and portfolio sizes.
Diffusing the risk of defaults across numerous participants also
greatly reduces the likelihood that the default of any one or two large
members will seriously jeopardize the clearinghouse, thereby
strengthening the DCO's financial stability.
III. FCMs Also Perform Certain Trading-Related Functions That Are
Independent of Clearing Functions
FCMs are subject to certain obligations related to trading on an
exchange that are unrelated to clearing positions, such as: (i)
providing disclosures to customers regarding, inter alia, the risks of
trading; \23\ (ii) order and transaction recordkeeping obligations;
\24\ (iii) minimum trading standards; \25\ (iv) trading authorization
requirements; \26\ (v) requirements to produce monthly statements and
confirmations; \27\ and (vi) conflict of interest and trading
standards.\28\ These FCM requirements primarily focus on the FCM
customer's execution of transactions on the exchange. As these
functions are trading-related, rather than clearing-related, FTX
believes they are outside the scope of FTX's request to amend its
clearing order. It should be noted, however, that FTX acting in its
capacity as a DCM (which is a category of self-regulatory organization)
would handle many of these requirements in accordance with Part 38 of
the CFTC's rules, and has already been providing direct-access to its
exchange for years now, as have others.
---------------------------------------------------------------------------
\23\ CFTC Regulations 33.7 and 1.55; NFA Interpretive Notice 9073--
Disclosure Requirements for NFA Members Engaging in Virtual Currency
Activities. FTX is also subject to exchange trading related public
disclosure requirements as set forth in DCM Core Principle 7, and CFTC
regulations 38.1400 and 38.1401.
\24\ CFTC Regulation 1.35. FTX is also subject to exchange trading
related recordkeeping requirements as set forth in DCM Core Principle
18, and CFTC regulations 38.950 and 38.951.
\25\ CFTC Regulation 155.3. FTX is also subject to exchange trading
related requirements to protect its markets and market participants as
set forth in DCM Core Principle 12, and CFTC regulations 38.650
and38.651.
\26\ CFTC Regulation 166.2.
\27\ CFTC Regulation 1.33. FTX provides IRS Form 1099s to
customers, trade history is available to each customer.
\28\ See CFTC Regulations 1.56, 1.71, and 155.3. FTX is also
subject to exchange trading conflicts of interest requirements as set
forth in DCM Core Principle 16, and CFTC regulations 38.850 and 38.851.
---------------------------------------------------------------------------
* * * * *
FTX appreciates the opportunity to present its views on these
important issues andwould value the opportunity to discuss these
matters further, at your convenience.
Sincerely,
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Brian G. Mulherin,
General Counsel, FTX US Derivatives.
cc: Eileen Donovan.
Item 05_LedgerX LLC d/b/a FTX US Derivatives Participant Agreement
I. Services.
LedgerX is registered with the U.S. Commodity Futures Trading
Commission (``CFTC'') as the operator of a designated contract market
(``DCM''), a swap execution facility (``SEF'') and a derivatives
clearing organization (``DCO''). Participant wishes to receive access
to certain services pursuant to this Agreement (``Services''). LedgerX
is willing to provide such Services to Participant pursuant to the
terms of this Agreement. Participant agrees to be bound by the terms of
this Agreement, and the LedgerX Rulebook (defined below). LedgerX will
provide Participant with access to a system or a platform for execution
of Transactions as provided in the LedgerX Rulebook and as required by
the U.S. Commodity Exchange Act, as amended (the ``Act'').
II. Definitions.
Capitalized terms used but not defined herein have the respective
meanings given to them in the LedgerX Rulebook.
III. Participant Eligibility.
By executing this application and whenever using the Services, the
undersigned hereby represents and warrants that Participant meets the
eligibility requirements as set forth in Rule 3.2 of the LedgerX
Rulebook, as amended from time to time, and if trading through the SEF
is an Eligible Contract Participant (``ECP''). Further, each time such
Participant or any of its Authorized Representatives enters an order,
effects a transaction or otherwise uses the Services, Participant
represents, warrants and reaffirms that Participant meets the
eligibility requirements as set forth in Rule 3.2 of the LedgerX
Rulebook, and if trading through the SEF is an ECP.
IV. Participant Obligations and Consent to Jurisdiction of LedgerX.
Participant shall pay the fees and charges for the Services as
specified and revised from time to time on the LedgerX website
(``Website''), located at www.ledgerx.com. The fees and charges for the
Services are enumerated on the Website. LedgerX will notify Participant
of any change to such fees and charges by means of a Website post, and
any such changes will be effective 10 days after LedgerX posts such
amended fees on the Website. Following the expiration of such 10 day
period, the fees schedule on the Website will be deemed amended
accordingly. Participant's continued use of Services after the
expiration of the 10 day period will constitute Participant's agreement
to pay the amended fees and charges for the Services.
Participant hereby acknowledges and agrees that it has received and
read the rules and regulations established by LedgerX applicable to the
Services contained in the LedgerX rules (as supplemented or amended
from time to time, the ``LedgerX Rulebook''). Further, Participant
agrees to be and will be bound by, and will comply with, the LedgerX
Rulebook as amended from time to time. In the event of any conflict
between this Agreement and the LedgerX Rulebook, the Rulebook will
govern.*
---------------------------------------------------------------------------
* Editor's note: Page 1 of the LedgerX Participant Agreement is
dated June 2021 (Items I-IV to paragraph ending `` . . . Rulebook will
govern.''). All subsequent pages are dated December 2021.
---------------------------------------------------------------------------
Participant hereby consents to the jurisdiction of LedgerX. Upon
the prior written request of LedgerX, Participant will promptly (but in
any event, within 5 Business Days) provide to LedgerX such information
about itself and its Authorized Representatives as LedgerX requests.
Participant hereby agrees that it will only allow itself or its
duly authorized employees and representatives, in each case previously
identified to LedgerX, to access or use the Services. Participant
agrees to accept full responsibility for any transactions effected on
the Platform and for any use of the LedgerX DCM made by it or made
pursuant to the login information of Participant or its Authorized
Representatives. Participant will be financially responsible for such
trades even if the orders received via the LedgerX DCM were (1) entered
as a result of a failure in security controls and/or credit controls,
other than due to the gross negligence of LedgerX, or (2) entered by an
unknown or unauthorized user using the login credentials of Participant
or its Authorized Representatives.
V. Participant's Representations and Warranties.
Participant hereby represents, warrants and covenants to LedgerX,
and each time such Participant or any of its Authorized Representatives
enters an order, effects a transaction or otherwise uses the Services,
that Participant will be deemed by such act to represent, warrant and
covenant to LedgerX the following:
A. if such Participant is not a natural person, Participant is duly
organized, validly existing and in good standing under the
laws of its jurisdiction of organization and each other
jurisdiction in which the nature or conduct of its business
requires such qualification;
B. if such Participant is an individual, Participant is of the age
of majority in the individual's place of residence;
C. such Participant has all requisite legal authority and capacity
to enter into this Agreement and to use the Services on its
own behalf and to perform its obligations as a Participant;
D. such Participant will maintain during the term of this Agreement
all required and necessary regulatory approvals and/or
licenses to operate as a Participant;
E. such Participant and its Authorized Representatives are and will
be in compliance with all material respects of the Act,
CFTC Regulations and all other applicable laws, rules,
regulations, judgments, orders and rulings of any
governmental authority or self-regulatory organization,
authority, agency, court or body, including the laws of any
jurisdiction applicable to an Order or Transaction
(collectively, ``Applicable Law'') (including data
protection and privacy laws and laws with respect to
recording messages of Participant employees, including
providing and obtaining required notices or consents); and
F. Participant is not statutorily disqualified from acting as a
Participant and that there is, to the best of its
knowledge, no pending or threatened action, suit or
proceeding before or by any court or other governmental,
regulatory or self-regulatory body, to which Participant is
a party, that seeks to affect the enforceability of this
Agreement or its ability to act as a Participant.
VI. Participant Acknowledgments.
Participant further acknowledges and agrees that:
A. it is fully aware of the speculative nature and high risk
associated with the Services referred to in this Agreement
and of derivatives, futures, swaps, and options trading
generally (including the risk that Participant or its
Authorized Representatives may incur trading losses);
B. it is fully aware that if Participant transfers digital currency
away from LedgerX, that transfer is immediately
irreversible once effectuated, that Participant is solely
responsible for designating the correct destination and
maintaining the ability to access and control the
transferred digital currency, and that LedgerX accepts no
responsibility for Participant's ability to access or
control any digital currency transferred away from LedgerX
by Participant;
C. it is fully aware of, acknowledges, and agrees to LedgerX's
Digital Currency Fork policy set forth in Rule 11.14 of the
LedgerX Rulebook;
D. it will abide by and be subject to the LedgerX Rulebook, as now
existing and as hereafter duly amended from time to time,
including the obligation to submit to arbitration or the
jurisdiction of the State or Federal courts located within
the City of New York in accordance with Rules 10.1-10.5,
11.5 and 11.6 of the LedgerX Rulebook;
E. Participant agrees to be bound by, and comply with, this
Agreement, and amendments to this Agreement, solely by
Participant's or its Authorized Representatives' access or
use of the Services;
F. notwithstanding the above, amendments to this Agreement are
automatically effective unless, within 10 days of the
change, Participant: (1) ceases using the Services, (2)
does not enter into any further trades of any kind on the
Platform, and (3) gives notice to LedgerX to arrange for
the closing of its Accounts;
G. this Agreement is enforceable against Participant, and against
each of its Authorized Representatives directly, through
the dispute resolution procedures in this Agreement and the
LedgerX Rulebook;
H. its status as a Participant may be limited, conditioned,
restricted or terminated by the Board in accordance with
the LedgerX Rulebook;
I. it will provide such other information as may be reasonably
requested by LedgerX from time to time as may be necessary
or desirable to verify its qualifications as a Participant;
J. it authorizes LedgerX to verify, on an initial and a periodic
basis, by investigation, the statements in the application
materials provided to LedgerX, which may include a criminal
background check, a review of Participant's credit report,
and such other action reasonably deemed necessary by
LedgerX;
K. it authorizes any governmental, regulatory or self-regulatory
body, futures exchange, swap execution facility, securities
exchange, national securities association, national futures
association, bank or other entity to furnish to LedgerX,
upon its request, any information such entity may have
concerning Participant, and Participant hereby releases
such entity from any and all liability of whatsoever nature
by reason of furnishing any such information to LedgerX;
L. it hereby authorizes LedgerX to make available to any
governmental, regulatory or self-regulatory body, futures
exchange, swap execution facility, securities exchange,
national securities association, national futures
association, bank or other entity (upon such entity's
showing of proper authority and need) any information
LedgerX may have concerning Participant, and it hereby
releases LedgerX from any and all liability of whatsoever
nature by reason of furnishing any such information;
M. it will not fraudulently deposit funds into its Participant
Account, Collateral Account, Cleared Swaps Customer
Account, Proprietary Account or any other account
associated with this Agreement or the use of LedgerX's
services (individually, an ``Account'' and collectively,
the ``Accounts'');
N. it hereby authorizes LedgerX to deduct from its Accounts
maintained on the books and records of LedgerX all fees or
other charges accruing to Participant, including legal fees
and costs;
O. it hereby authorizes LedgerX to cancel, reverse, liquidate, close
out or transfer Participant's position or terminate its
Account(s) at LedgerX's sole discretion, and without prior
reference to the Participant or its Authorized
Representatives, in the event that the position is not
sufficiently collateralized, as determined and set by
LedgerX in its sole and absolute discretion;
P. it hereby authorizes LedgerX in the event of a cancellation,
reversal, liquidation, close out or transfer of
Participant's position or a termination of its Account to
sell or liquidate any and all cash and other assets in the
Account that is needed to satisfy any financial obligation
of Participant arising as a result of such actions;
Q. it will be responsible to LedgerX for payment of any deficiency
remaining in Participant's Account should an Account be
liquidated or terminated;
R. it will keep confidential all information related to the
Settlement Bank, including but not limited to the name of
such Settlement Bank, account numbers, and bank personnel,
except as necessary to perform LedgerX-related transfers;
S. upon each transfer of Underlying to LedgerX, it will pledge to
LedgerX a first-priority security interest in such
Underlying, and it authorizes LedgerX to make transfers of
such Underlying in accordance with the LedgerX Rulebook;
T. it hereby declares that the statements in this Agreement and in
any application materials provided to LedgerX are true,
complete and accurate, and that it will promptly notify
LedgerX in writing if any representation, warranty or
covenant made herein changes or ceases to be true;
U. it will be solely responsible, at its own risk and expense, for
(1) acquiring, installing and maintaining all equipment,
hardware and software (other than any applications,
algorithms, software, interfaces or code that LedgerX may
provide to such Participant pursuant to the terms of this
Agreement for purposes of accessing and utilizing the
Platform (collectively, ``Trading Tools'') and the
Platform), internet access, telecommunications, and network
systems necessary and compatible for it to access and use
the Platform and Trading Tools and (2) ensuring that any
systems, facilities, servers, routers, and other equipment
and software it uses to access and use the Platform and
Trading Tools are at all times protected by, and at all
times comply with, all applicable information security and
firewall precautions, at a level of security not less than
that prevailing in the industry;
V. LedgerX cannot guarantee electronic access to the Platform if
Participant's internet service is down or disconnected, and
that LedgerX is not responsible for any losses due to
Participant's inability to connect to the Platform when
Participant's internet service is down or disconnected;
W. it will comply with any security polices applicable to
Participant set forth on the Website;
X. it consents to the electronic delivery of all tax forms,
including, without limitation, IRS Form 1099-B, or such
other tax forms as LedgerX may determine are required; and
Y. it is obligated to update any and all information contained in
any part of this Agreement for so long as Participant
receives access to Services pursuant to this Agreement.
VII. Third-Party Exchange Participants: Representations, Warranties and
Acknowledgments.
Participants and their Authorized Representatives who trade through
third-party exchanges and clear those trades through LedgerX
(hereinafter collectively, ``Third-Party Exchange Participants''),
hereby agree to be bound, and to comply with, all provisions in this
Agreement to the same extent as other Participants and Authorized
Representatives. Third-Party Exchange Participants and their Authorized
Representatives hereby affirm all representations, warranties,
covenants and acknowledgments in this Agreement, including but not
limited to the acknowledgment that this Agreement is enforceable by
LedgerX against Third-Party Exchange Participants and their Authorized
Representatives directly, through the dispute resolution procedures in
this Agreement and the LedgerX Rulebook. Additionally, each Third-Party
Exchange Participant and each of their Authorized Representatives
agrees to be bound by and to comply with the LedgerX Rulebook.
LedgerX may seek any legal, regulatory or similar claims against a
Third-Party Exchange Participant and each of its Authorized
Representatives in the same manner it would pursue such an action
against other Participants and their Authorized Representatives. For
the avoidance of doubt, unless expressly stated herein, nothing in this
Agreement shall prevent LedgerX or its agents from pursuing any claims,
liabilities and expenses arising from the conduct of a Third-Party
Exchange Participant or its Authorized Representatives (including
attorneys' fees, out of pocket expenses, costs and disbursements). For
purposes of this Agreement, each Third-Party Exchange Participant shall
be deemed to be a ``Participant,'' unless otherwise noted herein, and
all terms of this Agreement pertaining to Participants also pertain
equally to Third-Party Exchange Participants. All terms of this
Agreement pertaining to Authorized Representatives also pertain equally
to any agent or representative of a Third-Party Exchange Participant.
VIII. Indemnity.
Participant hereby agrees to indemnify and hold harmless LedgerX
and its directors, officers, employees, members, affiliates and agents
(each, a ``Related Party'') from and against all expenses and costs and
damages (including any legal fees and customary expenses), directly and
actually incurred by LedgerX (including consequential damages awarded
to the third party) as a result of third-party claims resulting from,
in connection with, or arising out of Participant's use of the Services
or activities of Participant or arising out of or relating to this
Agreement, including any failure by Participant, for any reason,
fraudulent, negligent, or otherwise, to comply with its obligations and
requirements set forth in this Agreement, or any failure of Participant
to comply with the agreements, representations or covenants contained
in this Agreement.
Within 10 Business Days after LedgerX receives written notice of a
claim that LedgerX reasonably believes falls within the scope of this
paragraph, LedgerX will provide Participant with written notice of that
claim, provided, however, that failure to provide such notice will not
relieve Participant of its indemnity obligations hereunder except to
the extent Participant is materially prejudiced thereby and Participant
will not be responsible for those expenses, costs and damages that
LedgerX incurs solely as a result of any such delay. Participant's
indemnity obligation will not apply to the extent there has been a
final determination (including exhaustion of any appeals) by a court or
arbitrator of competent jurisdiction that the expense, cost or damage
arose from LedgerX's gross negligence, fraud or willful misconduct.
IX. Limited Warranty and Limitation of Liability.
The LedgerX rules concerning liability and warranties (including
without limitation Rule 11.7 of the LedgerX Rulebook, and any successor
Rules thereto) are incorporated herein by reference and apply with the
same force and effect as if they were reproduced in their entirety in
this Agreement. Those LedgerX rules set out the entire liability of
LedgerX to Participant. All other liability of LedgerX under or in
connection with this Agreement is excluded, except to the extent that
it is not permitted to be excluded by Applicable Law.
X. Data Use Consent.
Participant hereby grants LedgerX a worldwide, perpetual,
irrevocable, royalty-free, full sublicensable and freely assignable
license to store, use, copy, display, disseminate and create derivative
works from: (1) the price and quantity data for each Transaction
entered into by Participant that is executed via the Services and (2)
each bid, offer and/or Order provided via the Services by Participant.
Participant acknowledges and agrees that LedgerX may use such
information for business, marketing and other purposes.
XI. Market Information; No Warranty.
LedgerX may make available to Participant a broad range of
financial information that LedgerX obtains from third-party service
providers, including financial market data, spot market data, quotes,
news, analyst opinions, links to other third-party sites and research
reports (hereinafter, ``Market Information''). LedgerX does not endorse
or approve Market Information, and we make it available to Participant
and its Authorized Representatives only as a service and convenience.
LedgerX and its third-party service providers do not (1) guarantee the
accuracy, timeliness, completeness or correct sequencing of Market
Information, or (2) warrant any results from the use or reliance on
Market Information. LedgerX expressly disclaims and makes no warranty
of merchantability, fitness for a particular purpose or use, or non-
infringement. There is no other warranty of any kind, express or
implied, regarding the Market Information.
Market Information may quickly become unreliable for various
reasons including, for example, changes in market conditions or
economic circumstances. Neither LedgerX nor the third-party service
providers are obligated to update any information or opinions contained
in any Market Information, and LedgerX may discontinue offering Market
Information at any time without notice. Participant and its Authorized
Representatives agree that neither LedgerX nor the third-party service
providers will be liable in any way for the termination, interruption,
delay or inaccuracy of any Market Information. Participant and its
Authorized Representatives agree not to redistribute or facilitate the
redistribution of Market Information, and agree not to provide access
to Market Information to anyone who is not authorized by LedgerX to
receive Market Information.
XII. No Investment Advice or Recommendations.
Participant hereby acknowledges and agrees that LedgerX provides no
legal, tax, investment, financial or other advice, and nothing
contained in the Services constitutes a solicitation, recommendation,
endorsement or offer by LedgerX to buy or sell any commodity
derivative, future, option or swap. Participant assumes the sole
responsibility of evaluating the merits and risks associated with the
use of the Services before making any investment decisions, and
Participant agrees not to hold LedgerX liable for any possible claim
for damages arising from any decision made based on the Services,
information or Market Information made available to Participant or its
Authorized Representatives by or through LedgerX.
XIII. Netting Program.
Participant hereby acknowledges that LedgerX provides a netting
program (the ``Netting Program'') as described on the Website, which
may be amended or revised by LedgerX from time to time in its sole and
absolute discretion. Participant hereby agrees that the Netting Program
(and any subsequent amendment or revision to it) is made a part of, and
incorporated by reference into, this Agreement. Participant hereby
chooses to opt in or opt out of such Netting Program as elected on the
signature page hereto.
XIV. Margin.
Participant agrees that when it establishes in its Account a
margined position, Participant will deposit and maintain in its Account
sufficient qualifying assets to serve as collateral to meet the Margin
Requirement, which will be set by LedgerX in its sole and absolute
discretion. The assets that will qualify as good collateral to support
a margined position will be limited to cash and the specific types of
assets that LedgerX has determined it will accept and credit as good
collateral. Participant acknowledges and agrees that the Margin
Requirement for any open position may vary over time based on, among
other things, (a) the number, the size of, and the specific instruments
traded in, the open positions in the Participant's Account; (b) the
unrealized profits or losses on such open positions at any given time;
(c) market conditions; and (d) LedgerX policies in place from time to
time, as further described on the LedgerX website.
As acknowledged by Participant in Section VI.O. above, Participant
acknowledges that not having sufficient qualifying assets to meet the
Margin Requirement could result in a Margin Closeout, which is defined
as the automatic closing of some or all of Participant's open
positions. Participant agrees to monitor the qualifying assets in
Participant's Account and ensure there are sufficient assets to meet
the Margin Requirement. Nothing in this Agreement shall be taken to
mean that LedgerX is required to provide Participant with time to
respond prior to a Margin Closeout when LedgerX, in its sole
discretion, deems it necessary to take immediate action. For the
avoidance of doubt, Participant agrees that their open positions could
be liquidated in a Margin Closeout if the market moves significantly
and/or quickly such that the Participant no longer meets the Margin
Requirement. In the event of a Margin Closeout, LedgerX may close all
of Participant's open positions.
Provided that the value of assets in Participant's Account that
qualify as good collateral is greater than the Margin Requirement,
Participant may withdraw from Participant's Account any amount of
assets in excess of the Margin Requirement.
If the value of assets in Participant's Account that qualify as
good collateral does not meet the Margin Requirement, LedgerX will not
have any obligation to execute any order that Participant submits to
LedgerX. Furthermore, LedgerX will have no obligation to execute any
order which would cause Participant's Account to fail to meet the
Margin Requirement.
LedgerX may, without notice to Participant, unilaterally initiate
and execute one or more close out orders for some or all of
Participant's open positions, in the event that the value of the assets
in Participant's Account that qualify as good collateral is determined
by LedgerX to be less than the Margin Requirement, or for any other
reason which in LedgerX's sole discretion LedgerX considers to create
unacceptable risk of financial loss relative to the value of
Participant's Account.
Any and all trading relating to margined positions shall be in in
accordance with Chapter 7 of the LedgerX Rulebook.
XV. Amendments to the Agreement.
LedgerX may modify any of the terms and conditions that are set
forth in this Agreement by providing not less than 10 days prior
written notice to Participant. Participant acknowledges and agrees that
such notice is sufficient if posted to the LedgerX website as a
regulatory notice under ``Regulatory Notices'' and that no other or
additional form of notice, actual or constructive, is required. If
Participant does not consent to the modification, Participant may
terminate this Agreement by sending a written notice of termination of
its Accounts to LedgerX at [email protected] within 10 days of receiving
notification of the modification from LedgerX. Any such termination
will be effective as of the date on which the modification would have
taken effect. In the event a Participant does not consent to the
modification of this Agreement, and objects to the modification in a
timely fashion as set forth above, then Participant (1) agrees to stop
using the Services immediately, (2) agrees that neither it nor its
Authorized Representatives will enter into any further trades of any
kind on LedgerX, (3) grants LedgerX the authority to close any open
positions immediately, and (4) agrees it will be responsible to LedgerX
for payment of any deficiency remaining in Participant's Accounts after
the closing of such positions.
XVI. Termination.
Subject to Applicable Law and the LedgerX Rulebook, LedgerX or
Participant may terminate this Agreement by giving the other prior
written notice. Termination of this Agreement will not affect liability
accrued as of termination. Sections V through XII, XIV, XVIII, and XXI
will survive termination of this Agreement and continue in full force
and effect.
In the event Participant elects to terminate this Agreement, then
Participant (1) agrees to stop using the Services immediately, (2)
agrees that neither it nor its Authorized Representatives will enter
into any further trades of any kind on LedgerX, (3) grants LedgerX the
authority to close any open positions immediately, and (4) agrees it
will be responsible to LedgerX for payment of any deficiency remaining
in Participant's Account after the closing of such positions.
XVII. Complete Agreement.
This Agreement constitutes the entire contract between the parties
relative to the subject matter hereof. Any other previous agreement
among the parties with respect to the subject matter hereof is
superseded by this Agreement. Nothing in this Agreement, expressed or
implied, is intended to confer upon any person (other than the parties
hereto, their respective successors and assigns permitted hereunder)
any rights, remedies, obligations or liabilities under or by reason of
this Agreement.
XVIII. Severability.
In the event that any one or more of the provisions contained in
this Agreement should be held invalid, illegal or unenforceable in any
respect, the validity, legality and enforceability of the remaining
provisions contained herein and therein shall not in any way be
affected or impaired thereby (it being understood that the invalidity
of a particular provision in a particular jurisdiction shall not in and
of itself affect the validity of such provision in any other
jurisdiction). The parties shall endeavor in good-faith negotiations to
replace the invalid, illegal or unenforceable provisions with valid
provisions the economic effect of which comes as close as possible to
that of the invalid, illegal or unenforceable provisions.
XIX. Counterparts.
This Agreement may be executed in counterparts (and by different
parties hereto on different counterparts), each of which shall
constitute an original but all of which when taken together shall
constitute a single contract.
Each party agrees that electronic signatures of the parties
included in this Agreement are intended to authenticate this writing
and to have the same force and effect as manual signatures. Electronic
signature means any electronic sound, symbol or process attached to or
logically associated with a record and executed and adopted by a party
with the intent to sign such record pursuant to the New York Electronic
Signatures and Records Act (N.Y. State Tech. 301-309) as amended
from time to time. Delivery of an electronic signature to this
Agreement shall be as effective as delivery of an original signed
counterpart of this Agreement.
XX. Assignment.
Participant may not assign this Agreement, in whole or in part,
without the prior written consent of LedgerX.
XXI. USA PATRIOT Act Notice.
LedgerX hereby notifies Participant that pursuant to the
requirements of the USA PATRIOT Act, it is required to obtain, verify
and record information that identifies Participant, which information
includes the name and address of Participant and other information that
will allow LedgerX to identify Participant in accordance with the USA
PATRIOT Act.
XXII. Governing Law.
This Agreement will be governed by and construed in accordance with
the laws of the State of New York. Any dispute between LedgerX and
Participant or its Authorized Representatives arising from or in
connection with this Agreement will be settled through arbitration or
the state or Federal courts located within the City of New York in
accordance with Rules 10.1-10.5, 11.5 and 11.6 of the LedgerX Rulebook.
Any arbitration must be brought in Cook County, Illinois.
XXIII. Click ``I agree'' for Your Signature.
As noted above in Section XVIII, Participant will be signing this
Agreement with a valid and binding electronic signature by clicking ``I
agree,'' and Participant acknowledges that it has read and understood
this Agreement's terms and conditions.
Item 06_LedgerX LLC d/b/a FTX US Derivatives DCO Exhibit G
Attach as Exhibit G, documents that demonstrate compliance with the
default rules and procedures requirements set forth in 39.16 of the
Commission's regulations, including but not limited to:
a. Default Management Plan--Applicant must provide a copy of its
written default management plan which must contain all of the
information required by 39.16(b), along with Applicant's most
recently documented results of a test of its default management plan.
See attached Default Management Plan.
b. Definition of default--Applicant must describe or otherwise
document:
(1) The events (activities, lapses, or situations) that will
constitute a clearing member default;
LedgerX LLC, doing business as FTX US Derivatives (``FTX''), is
a derivatives clearing organization (the
``Clearinghouse''). The Clearinghouse defines default as
the event when the participant account collateral is below
the maintenance margin requirement, and liquidating an
account on the Central Limit Order Book has not
successfully resulted in the account being above its
maintenance margin requirement.
(2) What action Applicant can take upon a default and how Applicant
will otherwise enforce the rules applicable in the event of
default, including the steps and the sequence of the steps
that will be followed. Identify whether a Default
Management Committee exists and, if so, its role in the
default process; and
The clearing house initiates an entirely automated sequence of
actions designed with the specific purpose of restoring the
clearing house's balanced book.
Such sequence of events include the sequence described in c(1).
The Chief Risk Officer is responsible for the default
management procedures for the clearing house. Significant
changes to these procedures (as defined in the Default
Management Plan) require approval from the Board of
Directors and the Risk Management Committee.
The clearing house does not have a Default Management committee
because the process is highly automated. The Chief Risk
Officer will escalate to the Risk Management Committee as
appropriate.
(3) An example of a hypothetical default scenario and the results of
the default management process used in the scenario.
1. Alice wants to trade a BTC derivative contract with a small
notional
size. She decides to trade the micro contract with
notional size of
0.0001 BTC. The micro futures contract is trading on
the limit order
book at $60,002/BTC, with best bid at $60,001/BTC for
20,000 con-
tracts, and best ask at $60,003/BTC for 35,000
contracts.
a. The micro contract's value is thus $6.0002 ($60,002/BTC
*0.0001
BTC).
2. According to the clearing house's proprietary real time
margin system,
the initial margin per contract is currently $1.20004
(20% of the con-
tract value) and maintenance margin is $0.90003 (15%
of the contract
value).
3. Participant Alice wishes to establish a long position of
20,000 micro
contracts at a price of $60,000/BTC. Alice deposits
in USD and has
$30,000 worth of free collateral in her account.
a. She places a limit order on the bid side at $60,000/BTC
for 20,000
lots.
b. At a market price of $60,000/BTC initial margin per
contract would
be $1.20 and maintenance margin per contract
would be $0.90.
c. As soon as this limit order is submitted, $24,000
($1.20* 20,000 con-
tracts) worth of collateral is locked. Alice has
$6,000 worth of re-
maining free collateral. The limit order rests on
the book because
it was not immediately filled.
4. 5 minutes later, the prevailing market price moves down.
Alice's limit
order for 20,000 lots is filled in full.
a. Once Alice's position is established, the collateral
lock drops from
the initial margin level to the maintenance
margin level. Alice has
$18,000 worth of collateral locked as maintenance
margin, and
$12,000 worth of free collateral.
5. The BTC futures contract price continues to fluctuate. 20
hours later,
the price drops to $55,000/BTC.
a. The collateral lock is now $16,500 for maintenance
margin. How-
ever, Alice's free collateral has dropped from
$12,000 to $3,500 due
to the price decline of $5,000/BTC per each
contract Alice holds in
the long position along with the decrease in
maintenance margin
as the position notional decreases.
b. As the futures contract price fluctuates, Alice
continues to receive
informational alerts automatically generated by
the clearing
house's margin system. It is Alice's
responsibility to deposit addi-
tional collateral as the account moves towards
the maintenance
margin level and free collateral amount continues
to decline.
6. Hypothetically, Alice fails to deposit additional
collateral to her account.
2 hours later, BTC futures contract price declined
further to drop below
$52,940/BTC.
a. Alice now has less collateral than that is required by
the mainte-
nance margin threshold, and the liquidation
engine begins to re-
duce Alice's position size.
b. Note that if Alice had funded her account with
additional collateral
just before the contract price moved below
$52,942/BTC then the
liquidation engine would not have been triggered
because the
newly deposited collateral would have increased
Alice's total collat-
eral to exceed the maintenance margin
requirement.
c. The liquidation engine will first cancel all pending
orders, which
Alice does not have in this scenario.
d. The liquidation engine will partially liquidate Alice's
position using
marketable limit orders, in a manner that does
not cause meaning-
ful price disruption, until the account's
collateral is greater than
the maintenance margin level.
e. Within 6 seconds, a sell order to liquidate 10% of
Alice's position
(2,000 micro contracts) is successfully filled at
$52,940/BTC. Alice's
long position is now 18,000 contracts with a
corresponding mainte-
nance margin level of $14,294. Alice's account
now has free collat-
eral of $1,586 and at a market price of $52,940/
BTC the liquidation
engine does not have to sell any more contracts.
Alice's account lost
$14,120 in the decrease in BTC price from $60,000
to $52,940.
7. No loss is sustained by the clearing house. Alice's risk
position is suc-
cessfully managed by the fully automated liquidation
engine.
c. Remedial action--Applicant must describe or otherwise document:
(1) The authority and methods by which Applicant may take
appropriate action in the event of the default of a
clearing member which may include, among other things,
liquidating positions, hedging, auctioning, allocating
(including any obligations of clearing members to
participate in auctions or to accept allocations), and
transferring of customer accounts to another clearing
member (including an explanation of the movement of
positions and collateral on deposit); and
Pursuant to authority in the Participant Agreement and
Rulebook, FTX's automated systems perform the following
actions sequentially in near-real-time, at a frequency
determined by the Chief Risk Officer.
------------------------------------------------------------------------
Sub-Paths through
Waterfall Layer Layer Methodology
------------------------------------------------------------------------
Liquidation Orders N/A The first step is to
carefully close
positions with rate-
limited liquidation
orders in the market.
An account begins to be
liquidated if the total
account value divided
by the total position
notional, which is the
position size
multiplied by its
market price (``Margin
Fraction''), is less
than its maintenance
margin.
During the
liquidation process,
users may not send
orders using their
account.
To close positions
in the market while
minimizing impact, the
liquidation engine will
periodically send
standard limit orders
on behalf of the
liquidated account.
Approximately every
Liquidation Delay
Period seconds
(currently 6 seconds),
the liquidation engine
sends the Liquidation
Percentage (currently
10 percent) of the
position size as an
order on the market.
The speed of the
liquidation process
depends on the size of
the position. For small
positions, the
Clearinghouse will aim
to fully close the
position in about a
minute.
If partially
liquidating the account
causes its Margin
Fraction to rise above
the maintenance margin
threshold, the
liquidation process
terminates. Otherwise,
the process continues.
Match-Up of Defaulting N/A Defaulting open
Open Interest interest is matched to
counterparties using
one or both of the
following methods.
Typically, a
liquidation will
proceed directly
through the Primary BLP
path, skip the
secondary BLP path, and
if necessary, proceed
to the Guaranty fund.
The backstop
liquidity provider
system is activated
when an account's
margin drops below the
minimum Margin Fraction
needed to avoid being
closed against the
backstop liquidity
provider (``Auto-Close
Margin Fraction'' or
``ACMF''), and
therefore closer to
bankruptcy.
In this step, the
account will have its
defaulting positions
closed down at the
bankruptcy price (the
market price that would
set an account value at
zero, or ``Zero
Price''), and the
positions will be
transferred to the
backstop liquidity
provider.
If the account's
value is at or above
the Zero Price, the
liquidation terminates
here. If account's
value is below the Zero
Price, the waterfall
will continue to the
next step, in which the
Guaranty fund steps in
to bring the account's
value back to the Zero
Price.
Primary Backstop The Primary BLPs
Liquidity Providers sign up to the Backstop
(BLPs) Liquidity Provider
Program voluntarily and
should ordinarily be
able to absorb all
assignment of open
interest from
defaulting positions,
without resorting to
Secondary BLPs.
Primary Backstop
Liquidity Providers
(``BLPs'') have a
maximum capacity per
minute and per hour and
the position is closed
against BLPs in
proportion to the
remaining capacity.
Secondary BLPs Secondary BLPs will
(subpath, not only have their
sublayer) positions auto-closed
if an account hits the
Auto-Close Margin
Fraction and the
Primary BLPs are out of
capacity.
The Secondary BLP is
an alternate route to
the Guaranty Fund. As
long as BLP capacity
remains, the Secondary
BLP path will be
skipped entirely, and
the waterfall will
proceed downwards to
the Guaranty Fund and
beyond without hitting
the Secondary BLPs.
Any remaining open
interest not assigned
to a takeover
counterparty is
assigned to
participants with large
opposing positions
(starting with the top
10 opposing positions,
more if their total is
insufficient), in
proportion to their
position sizes.
Guaranty Fund N/A If an account's
value hits the Zero
Price, the Guaranty
fund will pay out to
bring the account's
balance back to 0.
In other words, the
Guaranty Fund pays out
the difference between
the current account
value and the
bankruptcy price.
Settlement Variation If the account is
Margin Gain bankrupt and the
Haircutting Guaranty Fund is empty,
the remaining losses
are taken from
positions with positive
unrealized Profit and
Loss (proportionally to
Profit and Loss).
Full Tear-Up/Bankruptcy The Clearinghouse is
bankrupt. Positions are
torn up after
consultations with the
Risk Management
Committee, the Board of
Directors, and
regulators as
appropriate.
------------------------------------------------------------------------
Actions taken by a clearing member or other events that would put
a clearing member on Applicant's ``watch list'' or similar
device.
FTX operates an entirely collateral-based margin system.
However, the clearing house develops and maintains a
sophisticated review and internal assessment and monitoring
process for each participant.
Additionally, the clearing house maintains a watch list for
existing participants that engage in suspicious market
activity, repeated or excessive liquidation in excess of
the risk monitoring program, where the clearing house has
the discretion to increase margin requirements, impose risk
reducing transactions, and suspense trading and clearing.
d. Process to address shortfalls--Applicant must describe or
otherwise document:
(1) Procedures for the prompt application of Applicant and/or
clearing member financial resources to address monetary
shortfalls resulting from a default;
FTX's automated systems immediately apply guaranty fund
resources via internal ledger transactions whenever there
is a need to address monetary shortfalls resulting from a
default.
(2) How Applicant will make publicly available its default rules
including a description of the priority of application of
financial resources in the event of default (i.e., the
``waterfall''); and
FTX will make publicly available its default rules available
via its Rulebook, which is posted on its website. FTX will
make publicly available a description of the default
waterfall on its website.
(3) How Applicant will take timely action to contain losses and
liquidity pressures and to continue to meet each obligation
of Applicant.
FTX's automated systems act upon underwater positions in real-
time, without the need for human intervention. This
approach significantly reduces the risk of runaway losses
versus credit-based systems, where losses can accumulate
for much longer periods of time, and where action to
contain losses is manual and therefore not timely.
e. Use of cross-margin programs--Describe or otherwise document, as
applicable, how cross-margining programs will provide for fair and
efficient means of covering losses in the event of a default of any
clearing member participating in the program.
While FTX would like to offer cross-margining programs in the
future, FTX does not currently offer cross-margining programs.
f. Customer priority rule--Describe or otherwise document rules and
procedures regarding priority of customer accounts over proprietary
accounts of defaulting clearing members and, where applicable,
specifically in the context of specialized margin reduction programs
such as cross-margining or common banking arrangements with other
derivatives clearing organizations, clearing agencies, financial market
utilities or foreign entities that perform similar functions.
FTX does not currently deal with clearing members who carry
customer accounts, only direct clearing members. FTX does not currently
offer cross-margining or other banking arrangements with other
derivatives clearing organizations, clearing agencies, financial market
utilities or foreign entities that perform similar functions.
The Clearinghouse holds clearing member funds separate from the
operating funds of the Clearinghouse.
Item 07_LedgerX LLC d/b/a FTX US Derivatives Rules
version 21.[__]
Draft--December 6, 2021
Chapter 1 Definitions
Rule 1.1 Definitions
Rule 1.2 Rules of Construction
Chapter 2 Company Governance
Rule 2.1 Ownership
Rule 2.2 Board
Rule 2.3 Officers
Rule 2.4 Eligibility and Fitness
Rule 2.5 LedgerPrime
Rule 2.6 Committees and Subcommittees
Rule 2.7 Regulatory Oversight Committee
Rule 2.8 Risk Management Committee
Rule 2.9 Participant Committee
Rule 2.10 Nominating Committee
Rule 2.11 Disciplinary Panel and Appeals Committee
Rule 2.12 Emergency Rules
Rule 2.13 Conflicts of Interest
Rule 2.14 Recordkeeping
Rule 2.15 Information-Sharing Agreements
Rule 2.16 Recordkeeping and Reporting Requirements
Rule 2.17 Public Information
Chapter 3 Participants
Rule 3.1 Jurisdiction, Applicability of Rules
Rule 3.2 Participants--Applications, Agreements, Eligibility
Criteria, Classifications and Privileges
Rule 3.3 Participant Obligations
Rule 3.4 Customer Account Requirements for FCM Participants
Rule 3.5 Customer Funds Maintained With the Company
Rule 3.6 Dues, Fees and Expenses Payable by Participants
Rule 3.7 Recording of Communications
Rule 3.8 Independent Software Vendors
Rule 3.9 Participant Accounts and Customer Accounts
Rule 3.10 Withdrawal of Participant
Chapter 4 Liquidity Providers
Rule 4.1 Application and Agreement
Rule 4.2 Appointment
Rule 4.3 Benefits
Rule 4.4 Obligations
Chapter 5 Method for Trading Company Contracts
Rule 5.1 User IDs
Rule 5.2 Order Entry and Audit Trail
Rule 5.3 Order Type
Rule 5.4 Trading Contracts on Behalf of Customers
Rule 5.5 Execution Methods
Rule 5.6 Trading Hours
Rule 5.7 Block Trades
Rule 5.8 Exchange for Physical Transactions
Chapter 6 Clearing and Delivery
Rule 6.1 Clearance and Substitution
Rule 6.2 Settlement of Company Contracts
Rule 6.3 Deposit Procedures
Rule 6.4 Withdrawal Procedures
Rule 6.5 Deliveries
Rule 6.6 Reconciliation
Rule 6.7 Swap Data Reporting
Chapter 7 Margin
Rule 7.1 Initial Margin, Variation Margin, and Maintenance Margin
Requirements
Rule 7.2 Collateral
Rule 7.3 Segregation of Participant Funds
Rule 7.4 Concentration Limits
Chapter 8 Business Conduct and Trading Practices
Rule 8.1 Scope
Rule 8.2 Procedures
Rule 8.3 Prohibited Trading Activity; Prohibitions on Fictitious
Transactions, Fraudulent Activity and Manipulation
Rule 8.4 Prohibition on Money Passing, Pre-Arranged, Pre-
Negotiated and Non-Competitive Trades
Rule 8.5 Acts Detrimental to the Welfare or Reputation of the
Company Prohibited
Rule 8.6 Misuse of the Platform
Rule 8.7 Supervision; Information Sharing
Rule 8.8 Business Conduct
Rule 8.9 Trading Practices
Rule 8.10 Customer Order Priority
Rule 8.11 Trading Against Customer Orders
Rule 8.12 Prohibition on Withholding of Customer Orders
Rule 8.13 Execution Priority
Rule 8.14 Crossing Orders
Rule 8.15 Position Limits
Rule 8.16 Position Accountability Levels
Rule 8.17 Aggregation of Positions
Rule 8.18 Large Trader Reporting
Rule 8.19 Compliance
Chapter 9 Discipline and Enforcement
Rule 9.1 General
Rule 9.2 Investigations
Rule 9.3 Disciplinary Panel
Rule 9.4 Notice of Charges
Rule 9.5 Contesting and Appeals
Rule 9.6 Settlements
Rule 9.7 Notice of Decision
Rule 9.8 Penalties
Rule 9.9 Summary Suspension
Rule 9.10 Reporting Violations to the Commission
Chapter 10 Arbitration
Rule 10.1 In General
Rule 10.2 Fair and Equitable Arbitration Procedures
Rule 10.3 Withdrawal of Arbitration Claim
Rule 10.4 Penalties
Rule 10.5 Arbitration Panel
Chapter 11 Miscellaneous
Rule 11.1 Adjustments Necessitated by Material Changes in the
Underlying
Rule 11.2 Prohibition on Trading by Company Personnel; Misuse of
Material, Non-Public Information
Rule 11.3 Property Rights
Rule 11.4 Signatures
Rule 11.5 Governing Law
Rule 11.6 Legal Proceedings
Rule 11.7 Limitation of Liability; No Warranties
Rule 11.8 Error Trade Policy
Rule 11.9 Company Contacts
Rule 11.10 Reasonability Levels
Rule 11.11 No Cancellation Ranges
Rule 11.12 Amendments to the Rules
Rule 11.13 Transfer of Trades
Rule 11.14 Digital Currency Fork Policy
Chapter 12 Company Contract Specifications
Rule 12.1 USD/BTC Options
Rule 12.2 Day-Ahead USD/BTC Swaps
Rule 12.3 USD/BTC Weekly Options
Rule 12.4 Day-Ahead USD/BTC Options
Rule 12.5 BTC Block Height Options
Rule 12.6 Monthly USD/BTC Mini Options
Rule 12.7 Day-Ahead USD/BTC Mini Swaps
Rule 12.8 Weekly USD/BTC Mini Options
Rule 12.9 Day-Ahead USD/BTC Futures
Rule 12.10 Weekly USD/BTC Futures
Rule 12.11 Monthly USD/BTC Futures
Rule 12.12 Day-Ahead USD/BTC Mini Futures
Rule 12.13 Weekly USD/BTC Mini Futures
Rule 12.14 Monthly USD/BTC Mini Futures
Rule 12.15 USD/ETH Deci Options
Rule 12.16 USD/ETH Deci Futures
Rule 12.17 Day-Ahead USD/ETH Deci Swaps
Chapter 13 Clearing Services for Kalshi
Rule 13.1 Clearing Services for Kalshi
Rule 13.2 Clearance and Substitution of Kalshi Binary Contracts
Rule 13.2.1 Clearance and Substitution
Rule 13.2.2 Settlement of Kalshi Binary Contracts
Rule 13.2.3 Deposit Procedures
Rule 13.3 Margin for Kalshi Binary Contracts
Rule 13.4 Clearing House Systems and Collateral
Rule 13.5 LedgerX API
Rule 13.6 Other Rules That Are Applicable To Kalshi Participants
Rule 13.7 Other Rules That Are Not Applicable To Kalshi
Participants
Rule 13.8 Liability
Rule 13.9 Limitation of Liability; No Warranties for Clearing
Services
Rule 13.10 Approved Kalshi Binary Contract Specifications
Chapter 14 Default
Rule 14.1 Defaults
Rule 14.2 Liquidation or Termination or Suspension of Participant
Rule 14.3 Method of Closing Out Open Company Contracts
Rule 14.4 Amounts Payable to the Company
Rule 14.5 Insolvency of the Company
Rule 14.6 Default of the Company
Rule 14.7 Wind-Up of Company Contracts
Rule 14.8 Netting; Offset
Rule 14.9 Valuation
Rules of LedgerX LLC
Introduction
The Commodity Exchange Act requires that LedgerX LLC comply with
the core principles set forth in the Commodity Exchange Act, as
amended, and the regulations, rules and orders of the Commodity Futures
Trading Commission, and establish, monitor and enforce its Rules
relating to its business as a Swap Execution Facility (``SEF''),
Designated Contract Market (``DCM''), and Derivatives Clearing
Organization (``DCO''). The following Rules of LedgerX LLC pertain to
the trading of Company Contracts on the Company DCM and the Company
SEF, the clearing of Company Contracts on the Company DCO, the clearing
of other Contracts as a provider of Clearing Services, and the rights
and Obligations of Participants in connection with such activities.
Chapter 1 Definitions
Rule 1.1 Definitions
As used in these Rules, the following terms have the following
respective meanings:
Affiliate: A Person who, directly or indirectly, controls, is
controlled by, or is under common control with another Person.
Appeals Committee: A committee of the Board composed of
Directors pursuant to Rule 2.11, and that acts in an
adjudicative role and fulfills various adjudicative
responsibilities and duties as described in Chapter 9.
Applicable Law: With respect to any Person, any statute, law,
regulation, rule or ordinance of any government, governmental
or self-regulatory authority applicable to such Person,
including without limitation the CEA and CFTC Regulations and
any laws and regulations relating to economic or trade
sanctions.
As soon as technologically practicable: As soon as possible,
taking into consideration the prevalence, implementation and
use of technology by comparable market participants.
Authorized Representative: With respect to any Participant
that is an entity, an officer of such entity who is responsible
for supervising all activities of the Participant, its
Authorized User(s) and its employees relating to Transactions,
and for providing information regarding the Participant to the
Company upon request of the Company.
Authorized User: A natural person who is either employed by
or is an agent of a Participant and who is authorized by the
Participant to trade on the Company DCM and/or the Company SEF
on behalf of the Participant, and in the case of FCM
Participants, intermediate Orders and clear Transactions on
behalf of Customers, provided that the Participant maintains
supervisory authority over such individual's trading
activities, but Authorized Users shall not include (i)
employees or agents of Customers or (ii) Customers that are
natural persons.
Binary Contract means an options contract with two positions
which settle to an outcome of ``YES'' or ``NO,'' rather than
settling to a price or value.
Block Trade: A privately negotiated transaction effected away
from the Platform in accordance with Rule 5.7.
Board: The Board of Directors of the Company.
Bitcoin: A Digital Currency.
Business Day: Any day on which the Company DCM, the Company
SEF, or another DCM or SEF that clears trades through the
Company DCO is open for trading, as the context requires.
CEA: The Commodity Exchange Act, as amended.
CFTC Regulations: The regulations of the CFTC, as in effect
from time to time, including any Commission-issued orders or
interpretive or no-action letters.
Chief Compliance Officer: The individual appointed by the
Board to serve as the Company's chief compliance officer.
Chief Executive Officer: The individual appointed by the
Board to serve as the Company's chief executive officer.
Chief Risk Officer: The individual appointed by the Board to
serve as the Company's chief risk officer.
Cleared Swaps Customer: As defined in 22.1 of CFTC
Regulations.
Cleared Swaps Customer Account: As defined in 22.1 of CFTC
Regulations and, for purposes of these Rules, shall include an
account established and maintained for a Cleared Swaps Customer
by the Company on the Company's books and records to which a
financial asset is or may be credited in accordance with these
Rules and such other procedures as the Company may implement
from time to time.
Collateral Account: With respect to: (1) Participants,
including an FCM Participant's Proprietary Accounts, each
Participant's and FCM Participant's Participant Account and an
account opened and maintained by the Company at a Settlement
Bank (a) to which a Participant or FCM Participant transfers
funds and (b) from which the Company is authorized to debit
fees and margin or option premium, and debit or credit
settlement payments, as applicable; and (2) FCM Participants,
each FCM Participant's Customer Account and an account opened
and maintained by the Company at a Settlement Bank (a) to which
an FCM Participant transfers Customer Funds and (b) from which
the Company is authorized to debit fees and margin or option
premium, and debit or credit settlement payments, as
applicable.
Cleared Swaps Customer Collateral: As defined in 22.1 of
CFTC Regulations.
Cleared Swaps Proprietary Account: As defined in 22.1 of
CFTC Regulations.
Clearing House means the Company, in its capacity as a DCO.
Clearing Services means the provision by the Clearing House
to another registered DCM that is unaffiliated with the Company
of fully collateralized clearing, settlement and ancillary
services as set forth in Chapter 13.
Clearing Privileges: Any right granted by the Company to a
Participant to clear Company Contracts or Kalshi Binary
Contracts.
Commission or CFTC: The U.S. Commodity Futures Trading
Commission.
Company: LedgerX LLC. For the avoidance of doubt, references
to the ``Company'' generally shall refer to the Company in its
capacity as a DCM, SEF, and/or DCO, as the context requires.
Company Contract: Any derivative contract, including a
futures contract, option contract or swap agreement, based on
one or more Underlying and listed for trading on the Company
DCM or the Company SEF or subject to the Rules.
Company Contract Specifications: The terms and conditions of
a Company Contract as initially published in the Rules and
posted on the Website and thereafter as published in the Rules,
posted on the Website and sent in Participant Notices.
Company DCM: The Designated Contract Market of the Company.
Company DCO: The Derivatives Clearing Organization of the
Company.
Company Official: A Director, Officer, committee member, or
such other individual as the Board may designate from time to
time.
Company Personnel: A Company employee, consultant of the
Company, contractor of the Company or agent of the Company.
Company Representative: Any Company Official, Company
employee, consultant of the Company, contractor of the Company
or agent of the Company.
Company SEF: The Swap Execution Facility of the Company.
Company Telecommunication Systems: The Company's designated
telecommunications systems (e.g., telephone and instant
messaging) used for pre-trade communications and noncompetitive
executions permitted in accordance with these Rules, access to
which is provided to Participants by the Company.
Compliance Department: The department, reporting to the Chief
Compliance Officer, that is responsible for compliance,
investigations and disciplinary proceedings.
Contract means any derivative contract, including a futures
contract, Binary Contract, option contract or swap agreement,
based on one or more Underlying and for which the Clearing
House provides Clearing Services subject to the Rules.
Critical Security Parameters or CSPs: Company-assigned
private authentication tokens such as automated passwords and
cryptographic keys used to access the Platform together with
the User ID for security purposes.
Customer: (i) A Participant that has authorized an Executing
Participant to execute Orders on behalf of such Participant on
or subject to the Rules of the Company, provided that such
Participant shall not be deemed to be a Customer with respect
to the clearing or settlement of its Transactions or its margin
or option premium associated with such Transaction; (ii) a
Cleared Swaps Customer; (iii) a Futures Customer; or (iv) both
an Executing Participant's Customer and a Cleared Swaps
Customer or a Futures Customer, in each case as the context
requires.
Customer Account: A Cleared Swaps Customer Account or a
Customer Segregated Account, as the context requires.
Customer Funds: As defined in CFTC Regulation 1.3.
Customer ID: The identifying code an FCM Participant assigns
to a Customer and includes in each Customer Order to identify
the individual customer on whose behalf the FCM Participant is
exercising Trading Privileges and/or Clearing Privileges.
Customer Segregated Account: A ``futures account,'' as
defined in CFTC Regulation 1.3, and, for purposes of these
Rules, shall include an account established and maintained for
a Futures Customer by the Company on the Company's books and
records to which a financial asset is or may be credited in
accordance with these Rules and such other procedures as the
Company may implement from time to time.
Customer Type Indicator Code or CTI: A symbol that indicates
the buying and selling customer types, as required by CFTC
Regulation 1.35(g).
Defaulted Obligation: For any Participant, all amounts owing
by the Defaulting Participant, as well as any amounts owing by
the Company arising out of or in any way relating to the
Defaulting Participant's default.
Defaulting Participant: A Participant to whom a default
occurs pursuant to Rule 7.1 or 14.1.
Derivatives Clearing Organization or DCO: As set forth in
Section 1a(15) of the CEA and registered with the Commission
pursuant to Section 5b of the CEA and in accordance with the
provisions of Part 39 of CFTC Regulations.
Designated Contract Market or DCM: A board of trade
designated by the CFTC as a contract market under Section 5 of
the CEA and in accordance with the provisions of Part 38 of
CFTC Regulations.
Digital Currency: A medium of exchange stored and transferred
electronically, including, but not limited to, Bitcoin and
Ether.
Director: A member of the Board.
Disciplinary Action: Any inquiry, investigation, disciplinary
proceeding, appeal from a disciplinary proceeding, summary
imposition of fines, summary suspension or other summary
action.
Disciplinary Panel: A panel appointed by the Regulatory
Oversight Committee pursuant to Rule 2.11 to act in an
adjudicative role and fulfill various adjudicative
responsibilities and duties as described in Chapter 9.
Discretionary Order: As defined in Rule 8.10.
EFP transaction: An exchange for physical transaction
effected away from the Platform in accordance with Rule 5.8.
Eligible Contract Participant or ECP: As set forth in Section
1a(18) of the CEA and as further defined in CFTC Regulation
1.3(m).
Emergency: Any occurrence or circumstance which, in the
opinion of the Board, the Chief Executive Officer, the Chief
Compliance Officer, or a designee duly authorized to issue such
an opinion, requires immediate action, and which threatens, or
may threaten, such things as the fair and orderly trading in,
the liquidation, settlement, delivery, or the integrity of, any
Company Contract, or the timely collection and payment of funds
in connection with clearing and settlement by the Company,
including without limitation:
a. any circumstance that may materially affect the
performance of any Company Contract, including without
limitation failure of the payment system, the
bankruptcy or insolvency of any Participant, or any
actual, attempted or threatened theft or forgery of, or
other interference with, the Underlying or delivery or
transfer thereof;
b. any action taken by any United States or foreign
regulatory, self-regulatory, judicial, arbitral, or
governmental (whether national, state or municipal) or
quasi-governmental authority, or any agency,
department, instrumentality, or subdivision thereof; or
other Person exercising, or entitled to exercise any
administrative, executive, judicial, legislative,
police, regulatory or taxing authority or power; or any
other entity registered with the Commission, board of
trade, market or facility which may have a direct
impact on trading on the Company or clearing and
settlement of any Company Contract;
c. any actual, attempted or threatened corner,
squeeze, congestion, or undue concentration of
positions in any Company Contract;
d. any other circumstance that may have a severe,
adverse effect upon the functioning of the Company DCM,
the Company SEF, or the Company DCO; or
e. any manipulative or attempted manipulative
activity.
Emergency Action: An action deemed to be necessary or
appropriate to respond to an Emergency and taken pursuant to
Rule 2.12.
Emergency Rules: Procedures or rules adopted in response to
an Emergency pursuant to Rule 2.12.
Executing Participant: A Participant that has executed a
Participant Application and Agreement and is authorized to
enter into Orders and Transactions for its own account and is
authorized to execute Orders as agent for other Participants
and is registered with the Commission as a futures commission
merchant, introducing broker, commodity pool operator or
commodity trading advisor, or is exempt from registration as
such.
FCM Participant: A Participant that is registered with the
Commission as a Futures Commission Merchant and as a swap firm
and to whom the Company has granted Trading Privileges and
Clearing Privileges with respect to its Customer and
Proprietary Account, as applicable.
Futures Commission Merchant or FCM: As defined in Section
1a(28) of the CEA and in CFTC Regulation 1.3(p).
Futures Customer: As defined in CFTC Regulation 1.3.
Futures Proprietary Account: A ``proprietary account,'' as
defined in CFTC Regulation 1.3.
Independent Software Vendor or ISV: A Person that makes
available to Participants a system or platform offering smart
order routing, front-end trading applications, aggregation, or
a combination of the foregoing, but that does not provide
Participants the ability to effect Swaps on such system or
platform.
Initial Margin is the amount the Company estimates it
requires from a Participant to protect the Company from
exposures to future price fluctuations in the Participant's
Company Contract during the interval between the time the
Participant enters into the position and the time within which
the Company estimates it would be able to liquidate the
Participant's Company Contract with at least 99 percent
confidence.
Kalshi Binary Contract means a Binary Contract that is:
approved by the Clearing House for Clearing Services pursuant
to the Clearing House Rules; listed by Kalshi for trading by
Kalshi Participants; entered into between two Kalshi
Participants; and fully collateralized when entered into on
Kalshi.
Kalshi Binary Contract Specifications means the Kalshi Binary
Contracts specifications set forth in Chapter [13].
Kalshi Participant means a member of Kalshi that has
submitted the applicable Participant Application and Agreement
and has been approved by the Clearing House to submit Kalshi
Binary Contracts to Clearing House for Clearing Services, which
approval has not been revoked or withdrawn, and maintains a
Collateral Account and Participant Account with the Clearing
House.
KalshiEX, LLC or Kalshi shall mean KalshiEX, LLC, which is a
DCM registered with the CFTC for which the Clearing House
provides Clearing Services as specified in Chapter 13 of these
Rules.
LedgerPrime: As defined in Rule 2.5.
Legal Entity Identifier or LEI: The identifying code that is
required of each counterparty to any swap subject to the CFTC's
jurisdiction and that is used in all recordkeeping and all swap
data reporting pursuant to Part 45 of CFTC Regulations,
including any predecessor identifiers and including the Global
Markets Entity Identifier or GMEI, which is the current
identifier required by the CFTC until the establishment of a
global Legal Entity Identifier system. LEIs must be renewed on
an annual basis.
Life Cycle Event: Any event that would result in either a
change to a primary economic term of a Swap or to any primary
economic terms data previously reported to a Swap Data
Repository in connection with a Swap. Examples of such events
include, without limitation, a counterparty change resulting
from an assignment or novation; a partial or full termination
of the Swap; a change to the end date for the Swap; a change in
the cash flows or rates originally reported; availability of a
LEI for a Swap counterparty previously identified by name or by
some other identifier; or a corporate action affecting a
security or securities on which the swap is based (e.g., a
merger, dividend, stock split, or bankruptcy). Life Cycle Event
data means all of the data elements necessary to fully report
any Life Cycle Event.
Liquidity Provider: As defined in Chapter 4.
Liquidity Provider Agreement: An agreement between the
Company and a Liquidity Provider that must be executed for a
Participant to act as a Liquidity Provider.
Maintenance Margin is the minimum positive amount that must
be maintained in the Participant's Company account to protect
the Company from exposures to risk from the Participant's
Company Contract(s).
Market Participant Director: A Director who has been found by
the Board to be an authorized representative of a Participant
and suitable to be a Director pursuant to Section 5b(c)(2)(Q)
of the CEA.
Matching Engine: The set of algorithms through which Orders
are matched.
Material Relationship: As set forth in Rule 2.2F.
NFA: The National Futures Association.
Nominating Committee: The committee of the Board constituted
in accordance with Rule 2.10.
Notice of Charges: As set forth in Rule 9.4.
Novation: The process by which a party to a Contract entered
into on the Company SEF, Company DCM, or another SEF or DCM
that clears through the Company DCO transfers all of its
rights, liabilities, duties and obligations under the Contract
to a new legal party other than the counterparty to the
original Contract. The transferee accepts all of the
transferor's rights, liabilities, duties and obligations under
the original Contract. A Novation is valid as long as the
transferor and the remaining party to the original Contract are
given notice, and the transferor, transferee and remaining
party to the original Contract consent to the transfer.
Obligation: Any Rule, order or procedure issued by the
Company, including a Participant Notice or other requirement
implemented by the Company under the Rules (including each term
and condition of a Company Contract), as well as any
contractual obligations between, on the one hand, a Person, and
on the other hand, the Company, and any Order or Transaction
entered into by a Participant or its Authorized User.
OFAC: The Office of Foreign Assets Control of the U.S.
Department of the Treasury.
Officer: An individual as set forth in Rule 2.3.
Operating Agreement: The Limited Liability Company Operating
Agreement of the Company, as it may be modified from time to
time.
Order: Either a bid or an offer for a Company Contract
entered on the Platform or subject to the Rules.
Order for Relief: The filing of a petition in bankruptcy in a
voluntary case and the adjudication of bankruptcy in an
involuntary case.
Oversight Panel: As defined in CFTC Regulation 1.69,
Participant: A Person that has executed the Participant
Application and Agreement and is authorized to enter into
Orders and Transactions for its own account. As used in the
Rules, the term Participant includes an FCM Participant, an
Executing Participant and a Liquidity Provider unless the
context requires otherwise. A Participant must be an ECP to be
eligible to enter into Transactions on the Company SEF or
another SEF that clears through the Company DCO, or Block
Trades on the Company DCM or on another DCM. A Participant is
not required to be an ECP to be eligible to enter into EFP and
central limit order book transactions on the Company DCM or on
another DCM. References to the term Participant in the Rules
includes a Kalshi Participant, but only with respect to the
provision of Clearing Services by the Clearing House.
Participant Account: An account established and maintained
for a Participant by the Company on its books and records to
which a financial asset is or may be credited in accordance
with these Rules and such other procedures as the Company may
implement from time to time.
Participant Application and Agreement: An application
submitted by an applicant for Participant status and an
agreement between the Company and a Participant that must be
executed for a Participant to gain access to the Company SEF,
Company DCM and/or the Company DCO for the entry and execution
of Orders and/or clearance of Transactions.
Participant Committee: The committee of the Board constituted
in accordance with Rule 2.9.
Participant Notice: A communication sent by or on behalf of
the Company to all Participants in accordance with Rule 2.17.
Participant Portal: The vehicle through which Participants
send and receive messages to or from the Company and other
Participants, update account and contact information, and
submit deposit and withdrawal notifications.
Permitted Transaction: Any transaction involving a Swap that
is not subject to the trade execution requirement in Section
2(h)(8) of the CEA.
Person: As defined in Section 1a(38) of the CEA and in CFTC
Regulation 1.3(u).
Platform: The electronic trading facility operated by the
Company to provide Participants with the ability to execute
Orders and Transactions from the interaction of multiple bids
and multiple offers within a pre-determined, non-discretionary
automated trade matching and execution algorithm.
Position Limit: The maximum number of positions, either net
long or net short, in one Series or a combination of various
Series with the same Underlying that may be held or controlled
by a Participant as prescribed by the Company or the
Commission.
Proprietary Account: A Cleared Swaps Proprietary Account or a
Futures Proprietary Account, as the context requires.
Proprietary Data and Personal Information: Information
identifying a natural person (e.g., name, e-mail address) or
other data proprietary to any Person that discloses such
Person's trade secrets, market positions and/or other business
transactions, excluding Transaction Data.
Proprietary Information: As set forth in Rule 11.3A.
Public Director: A Director who has been found by the Board
to have no Material Relationship with the Company in accordance
with Rule 2.2F.
Public dissemination and publicly disseminate: To publish and
make available Swap transaction and pricing data in a non-
discriminatory manner, through the Internet or other electronic
data feed that is widely published (in a manner that is freely
available and readily accessible to the public) and in machine-
readable electronic format.
Regulatory Agency: Any government body, including the
Commission, and any organization, whether domestic or foreign,
granted authority under statutory or regulatory provisions to
regulate its own activities and the activities of its members,
and includes LedgerX LLC, any other clearing organization or
contract market, and the NFA.
Regulatory Oversight Committee: The committee of the Board
constituted in accordance with Rule 2.7.
Required Swap Continuation Data: As set forth in CFTC
Regulation 45.1.
Required Swap Creation Data: As set forth in CFTC Regulation
45.1.
Required Transaction: Any transaction involving a Swap that
is subject to the trade execution requirement in Section
2(h)(8) of the CEA.
Regulatory Swap Data: Includes (i) Swap Transaction and
Pricing Data, (ii) Required Swap Creation Data and (iii)
Required Swap Continuation Data.
Reporting Counterparty: As set forth in Part 45 of CFTC
Regulations and means the Participant that is designated as the
Reporting Counterparty pursuant to Rule 5.1.
Respondent: Any Person subject to a Disciplinary Action and
such Person's legal counsel or representative.
Risk Management Committee: The committee appointed by the
Board and constituted in accordance with Rule 2.8.
Rules: These rules of the Company, as in effect and as may be
amended from time to time.
Self-Regulatory Organization: As set forth in CFTC Regulation
1.3(ee) and includes a DCO.
Series: All Company Contracts having identical terms,
including Settlement Date and the value or range of values of
an Underlying or category of asset class.
Settlement Bank: A depository approved by the Company as an
acceptable location for depositing Participant funds or
Customer Funds, as applicable.
Settlement Bank Business Day: A day a Settlement Bank is open
for business.
Settlement Date: A Business Day on which: (1) a Participant
properly tenders to the Company an exercise notice on an option
contract, resulting in the delivery of the Underlying and
payment on the next Settlement Bank Business Day following the
exercise; (2) an open futures contract expires; or (3) the
Company automatically closes out and settles a Participant's
Company Contracts that offset one another. A Company Contract
that is an option and that has not been exercised on or before
the last trading day will expire with no value.
Swap: A Company Contract that is a swap as defined in Section
1a(47) of the CEA and as further defined by CFTC Regulation
1.3(xxx), and shall include Company Contracts that are options
as set forth in the Company Contract Specifications.
Swap Data Repository or SDR: As set forth in Section 1a(48)
of the CEA and registered with the Commission pursuant to
Section 21 of the CEA and in accordance with Part 49 of CFTC
Regulations.
Swap Execution Facility or SEF: As set forth in Section
1a(50) of the CEA and registered with the Commission pursuant
to Section 5h of the CEA and in accordance with the provisions
of Part 37 of CFTC Regulations.
Swap Transaction and Pricing Data: Any data required to be
reported under Part 43 of CFTC Regulations.
Trading Hours: The hours during which Orders may be entered
on the Company DCM or the Company SEF or subject to the Rules,
as set forth in Rule 5.6, and as may be revised from time to
time, by the Company as disclosed on the Website and through
Participant Notices.
Trading Privilege: Any right granted by the Company to a
Participant to transmit Orders for a Company Contract;
provided, however, that Trading Privileges for the Kalshi
Binary Contracts are not provided through the Company in its
capacity as a DCM.
Transaction: Any purchase or sale of any Company Contract
made on the Company or pursuant to the Rules.
Transaction Data: Orders, bids, offers and related
information concerning Company Contracts executed subject to
the Rules, together with all information and other content
contained in, displayed on, generated by or derived from the
Platform.
UCC: The Uniform Commercial Code as in effect in the State of
New York.
Underlying: The index, rate, risk, measure, instrument,
differential, indicator, value, contingency, commodity,
occurrence, or extent of an occurrence that shall determine the
amount payable or deliverable under a Company Contract.
Unique Swap Identifier or USI: The unique swap identifier,
which shall be created, transmitted, and used for each swap
executed on LedgerX as provided in CFTC Regulation 45.5.
User ID: The unique identifier registered with the Company
that the Company assigns to an Authorized User, and which is
included on each Order to enable the Company to identify the
Person entering such Orders, and, with respect to an Order
entered by an Executing Participant on behalf of a Customer,
the Customer.
Variation Margin is the amount of additional margin the
Company may require from a Participant to cover new or
increased exposures arising from the Participant's use of
margin.
Website: The Company home page or a website to which the
Company home page has a link.
Withdrawing Participant: A Participant that, pursuant to
these Rules, has notified the Company of its intention to
terminate its status as a Participant or who has been notified
by the Company of termination of its status as a Participant.
Rule 1.2 Rules of Construction
For purposes of these Rules, the following rules of construction
shall apply:
1. Words conveying a singular number include the plural
number, where the context permits, and vice versa.
2. References to any Regulatory Agency include any successor
Regulatory Agency.
3. If, for any reason, a Rule is found or determined to be
invalid or unenforceable by a court of law, the Commission or
another governmental or quasi-governmental agency with
supervisory authority, such Rule shall be considered severed
from the Rules and all other Rules shall remain in full force
and effect.
4. All references to time are to the local time in New York,
New York unless expressly provided otherwise.
5. All terms defined in the UCC and not otherwise defined
herein shall have the respective meanings accorded to them
therein.
6. In the event of a conflict between these Rules and a non-
disclosure agreement between the Company or an Affiliate of the
Company and a Participant or Customer, these Rules shall
govern.
7. In the event of a conflict between these Rules and the CEA
or CFTC Regulations, the applicable provision of the CEA and/or
CFTC Regulation shall govern.
Chapter 2 Company Governance
Rule 2.1 Ownership
The Company is a Delaware limited liability company. The management
and operation of the Company is governed by the Operating Agreement and
the Rules. Participant status does not confer any equity interest or
voting right in the Company.
Rule 2.2 Board
A. The Board shall, subject to applicable provisions in the
Operating Agreement:
1. Be the governing body of the Company;
2. Be constituted, and shall constitute its committees or
subcommittees, to permit consideration of the views of market
participants;
3. Have charge and control of all property of the Company;
4. Provide, acquire and maintain adequate Company offices and
facilities;
5. Fix, determine and levy all Participant or other fees when
necessary;
6. Determine the Company Contracts and the Company Contract
Specifications;
7. Adopt, amend or repeal any Rules, with the input of
Officers and committees or subcommittees;
8. Have the power to act in Emergencies as detailed in Rule
2.12; and
9. Have the power to call for review, and to affirm, modify,
suspend or overrule, any and all decisions and actions of the
Officers, committees or subcommittees related to the day-to-day
business operations of the Company.
B. Any authority or discretion by the Rules vested in any Officer
or delegated to any committee or subcommittee shall not be construed to
deprive the Board of such authority or discretion and, in the event of
a conflict, the determination of the matter by the Board shall prevail.
C. A majority of the Directors serving on the Board, including at
least one Public Director, shall constitute a quorum for the
transaction of business of the Board. At all times when the Board is
conducting business at a meeting of the Board, a quorum of the Board
must be present at such meeting, and the Board may act only by the
decision of a majority of the Directors constituting a quorum of the
Board by vote at a meeting, by unanimous written consent without a
meeting, or as otherwise set forth in the Operating Agreement.
D. The Board shall comprise the number of Directors set forth in
the Operating Agreement, which shall include Public Directors and
Market Participant Directors in at least the number or percentage
required under the CEA or CFTC Regulations, but in any event, (i) no
less than two Directors shall be Public Directors and (ii) no less than
two Directors shall be Market Participant Directors. Each Director
(including Public Directors and Market Participant Directors) shall be
appointed in accordance with the Operating Agreement, and shall serve
until his or her successor is duly appointed, or until his or her
earlier resignation or removal, with or without cause.
E. Each Director is entitled to indemnification pursuant to the
Operating Agreement with respect to matters relating to the Company.
F. To qualify as a Public Director, an individual must be found, by
the Board and on the record, to have no Material Relationship, as
defined below, with the Company. The Board must make such finding at
the time the Public Director is elected and as often as necessary in
light of all circumstances relevant to such Public Director, but in no
case less than annually. A Material Relationship is one that reasonably
could affect the independent judgment or decision-making of the
Director. The Board need not consider previous service as a Director of
the Company to constitute a Material Relationship. A Director shall be
considered to have a Material Relationship with the Company if any of
the following circumstances exist or have existed within the past year:
1. such Director is or was an Officer or an employee of the
Company, or an officer or an employee of an Affiliate of the
Company;
2. such Director is or was a Participant; or
3. such Director is or was a director, an officer, or an
employee of a Participant.
G. If any of the immediate family of a Director, i.e., spouse,
parents, children, and siblings, in each case, whether by blood,
marriage, or adoption, or any person residing in the home of the
Director or that of his or her immediate family have a Material
Relationship as defined above, then that Material Relationship is
deemed to apply to such Director.
H. The Board shall have procedures, as may be adopted by the Board
from time to time, to remove a Director where the conduct of such
Director is likely to be prejudicial to the sound and prudent
management of the Company.
I. The Board shall review its performance and that of its
individual Directors annually and shall consider periodically using
external facilitators for such review.
Rule 2.3 Officers
A. The Board shall appoint a Chief Executive Officer, Chief
Compliance Officer, Chief Risk Officer and such other officers of the
Company as it may deem necessary or appropriate from time to time.
B. The Chief Compliance Officer must:
1. have the background and skills appropriate for fulfilling
the responsibilities of the position;
2. be an individual who would not be disqualified from
registration under Section 8a(2) or 8a(3) of the CEA;
3. report to the Board or, in the event that the Board
delegates its authority to the Chief Executive Officer, to the
Chief Executive Officer; and
4. fulfill his or her duties as required pursuant to CFTC
Regulations, including, but not limited to, the preparation and
submission of an annual compliance report as described in CFTC
Regulation 39.10(c)(3), and assist the Regulatory Oversight
Committee in its preparation of an annual report.
C. Any Officer may also be a director, officer, partner or employee
of the Company or of any of its Affiliates, subject to disclosure and
resolution of conflicts of interest. Notwithstanding the foregoing, the
Chief Compliance Officer and the Chief Risk Officer must be two
different individuals.
D. The Officers shall have such powers and duties in the management
of the Company as the Board may prescribe from time to time, subject to
any limitations set forth in the Operating Agreement.
E. Each Officer is entitled to indemnification pursuant to the
Operating Agreement with respect to matters relating to the Company.
Rule 2.4 Eligibility and Fitness
A. An individual may not serve as a Director or Officer, or serve
on a committee or subcommittee established by the Board or hold a 10
percent or more ownership interest in the Company, if the individual:
1. within the prior 3 years has been found, by a final
decision of a court of competent jurisdiction, an
administrative law judge, the CFTC, or any Self-Regulatory
Organization, to have committed a disciplinary offense;
2. within the prior 3 years has entered into a settlement
agreement in which any of the findings or, in the absence of
such findings, any of the acts charged included a disciplinary
offense;
3. is currently suspended from trading on a Designated
Contract Market or a Swap Execution Facility, is suspended or
expelled from membership in a Self-Regulatory Organization, is
serving any sentence of probation, or owes any portion of a
fine or penalty imposed pursuant to either:
a. a finding by final decision of a court of
competent jurisdiction, an administrative law judge,
the CFTC or any Self-Regulatory Organization that such
person committed a disciplinary offense; or
b. a settlement agreement in which any of the
findings or, in the absence of such findings, any of
the acts charged included a disciplinary offense;
4. is currently subject to an agreement with the CFTC or
Self-Regulatory Organization not to apply for registration with
the CFTC or for membership in the Self-Regulatory Organization;
5. is currently, or within the past 3 years has been, subject
to a revocation or suspension of registration by the CFTC, or
has been convicted within the past 3 years of any of the
felonies listed in Section 8a(2)(D)(ii) through (iv) of the
CEA;
6. is currently subject to a denial, suspension or
disqualification from serving on a disciplinary panel,
arbitration panel or governing board of any self-regulatory
organization as that term is defined in Section 3(a)(26) of the
Securities Exchange Act of 1934; or
7. is subject to a statutory disqualification pursuant to
Section 8a(2) of the CEA.
For purposes of this Rule 2.4A, the terms ``disciplinary offense,''
``final decision'' and ``settlement agreement'' have the meaning given
those terms in CFTC Regulation 1.63(a).
B. Any Director, Officer, member of a committee established by the
Board and any individual nominated to serve in any such role, shall
immediately notify the Chief Executive Officer if such individual is
subject to one or more of the criteria in Rule 2.4A. Prior to
nomination to the Board, each individual shall certify he or she is not
disqualified pursuant to Rule 2.4A. Upon appointment, each Director,
Officer, and member of a committee shall provide to the Company, where
applicable, changes in registration information within 30 days and
certification of compliance accordingly. The Company shall verify
information supporting Board compliance with eligibility criteria.
C. To serve as a Director, an individual must possess the ability
to contribute to the effective oversight and management of the Company,
taking into account the needs of the Company and such factors as the
individual's experience, perspective, skills and knowledge of the
industry in which the Company operates.
D. A Director or Officer must meet any qualifications set forth
from time to time in the Operating Agreement.
E. An individual may not serve on any Disciplinary Panel,
arbitration panel, or the Appeals Committee during any proceeding
affecting or concerning such individual, to be determined in a
reasonable manner by the Company's General Counsel.
F. If the Company determines that an individual subject to this
Rule 2.4 no longer meets the criteria set forth in Rule 2.4.A., the
Company shall inform the CFTC of such determination. The Company shall
provide to the CFTC, upon request, an individual's certification of
compliance with the criteria set forth in Rule 2.4.A.
Rule 2.5 LedgerPrime
A. The Company's parent company has established LedgerPrime LLC
(``LedgerPrime''), a wholly-owned subsidiary of the Company's parent
company, to make markets in Company products (collectively, the
``LedgerPrime Contracts'') cleared by the Company and to engage in
hedging activities through various offsetting transactions. Position
and counterparty limits, as well as parameters on LedgerPrime hedging,
will be established by the Company.
B. LedgerPrime does not receive any preferential pricing from the
Company and does not have an inherent advantage over any other
Participant with respect to latency or Order execution speed.
C. LedgerPrime traders are subject to the same access criteria and
must abide by the same rules as all other Participants.
Rule 2.6 Committees and Subcommittees
A. The Board may create, appoint Directors to serve on, and
delegate powers to, committees and subcommittees. There shall be a
Regulatory Oversight Committee, a Risk Management Committee, a
Participant Committee, a Nominating Committee, a Disciplinary Panel,
and an Appeals Committee. The Board shall designate the chairperson of
each such committee, except that the chairperson of the Board shall
designate the chairperson of the Appeals Committee and the Regulatory
Oversight Committee shall designate the chairperson of the Disciplinary
Panel.
B. Each committee and subcommittee shall assist in the supervision,
management and control of the affairs of the Company within its
particular area of responsibility, subject to the Operating Agreement
and the authority of the Board.
C. Subject to the authority of the Board, each committee and
subcommittee shall determine the manner and form in which its
proceedings shall be conducted. A majority of the members serving on a
committee or subcommittee, including at least one Public Director,
shall constitute a quorum for the transaction of business of a
committee or subcommittee. Each committee and subcommittee may act only
by the decision of a quorum, by vote at a meeting or by unanimous
written consent without a meeting. The Board has the authority to
overrule the decisions of any committee or subcommittee.
Rule 2.7 Regulatory Oversight Committee
A. The Regulatory Oversight Committee shall be a standing committee
of the Board consisting of only Public Directors, as appointed from
time to time. No less than two Public Directors shall serve on the
Regulatory Oversight Committee.
B. Each member of the Regulatory Oversight Committee shall serve
for a term of one calendar year from the date of his or her appointment
or for the remainder of his or her term as a Public Director, and until
the due appointment of his or her successor, or until his or her
earlier resignation or removal, with or without cause, as a member of
the Regulatory Oversight Committee or as a Public Director. A member of
the Regulatory Oversight Committee may serve for multiple terms.
C. The Regulatory Oversight Committee shall oversee the Company's
regulatory program on behalf of the Board. The Board shall delegate
sufficient authority, dedicate sufficient resources, and allow
sufficient time for the Regulatory Oversight Committee to fulfill its
mandate. The Regulatory Oversight Committee shall make such
recommendations to the Board that will, in its judgment, best promote
the interests of the Company. The Regulatory Oversight Committee shall
also have such other powers and perform such other duties as set forth
in the Rules and as the Board may delegate to it from time to time.
D. The Regulatory Oversight Committee shall appoint individuals to
the Disciplinary Panel in accordance with these Rules, Applicable Law
and the composition requirements of the Disciplinary Panel. The
Committee shall appoint at least one person who would not be
disqualified from serving as a Public Director, and who shall serve as
the Chairperson of the Disciplinary Panel.
E. The Regulatory Oversight Committee shall prepare an annual
report that assesses the Company's self-regulatory program for the
Board and the CFTC. The annual report sets forth the regulatory
program's expenses, describes its staffing and structure, catalogues
disciplinary actions taken during the year, and reviews the performance
of the Disciplinary Panel. Such report may be prepared in conjunction
with the Chief Compliance Officer's annual compliance report as
required pursuant to CFTC Regulation 39.10(c)(3).
F. Without limiting the generality of the foregoing, the Regulatory
Oversight Committee shall have the authority to:
1. monitor the regulatory program of the Company for
sufficiency, effectiveness, and independence;
2. oversee all facets of the regulatory program, including
trade practice and market surveillance; audits, examinations,
and other regulatory responsibilities with respect to
Participants (including ensuring compliance with financial
integrity, financial reporting, sales practice, recordkeeping,
and other requirements); and the conduct of investigations;
3. review the size and allocation of the regulatory budget
and resources; and the number, hiring, termination, and
compensation of regulatory personnel;
4. supervise the Chief Compliance Officer of the Company, who
will report directly to the Regulatory Oversight Committee and
to the Board or, if the Board delegates such authority, to the
Chief Executive Officer;
5. recommend changes that would ensure fair, vigorous, and
effective regulation; and
6. review all regulatory proposals prior to implementation
and advise the Board as to whether and how such changes may
impact regulation.
Rule 2.8 Risk Management Committee
A. The Risk Management Committee shall be a standing committee
consisting of no fewer than one Public Director, one Market Participant
Director, and one Company Officer. The Risk Management Committee also
may allow the participation of other market participants.
B. Each member of the Risk Management Committee shall serve for a
term of one calendar year from the date of his or her appointment or
for the remainder of his or her term as a Public Director, as
applicable, and until the due appointment of his or her successor, or
until his or her earlier resignation or removal, with or without cause,
as a member of the Risk Management Committee or as a Public Director. A
member of the Risk Management Committee may serve for multiple terms.
C. The Risk Management Committee shall oversee the Company's risk
management program. The Board shall delegate sufficient authority,
dedicate sufficient resources, and allow sufficient time for the Risk
Management Committee to fulfill its mandate. The Risk Management
Committee shall make such recommendations to the Board that will, in
its judgment, best promote the interests of the Company. The Risk
Management Committee shall also have such other powers and perform such
other duties as set forth in the Rules and as the Board may delegate to
it from time to time.
Rule 2.9 Participant Committee
A. The Participant Committee shall be a standing committee of the
Board consisting of at least 35 percent Public Directors, as appointed
from time to time. No less than two Public Directors shall serve on the
Participant Committee.
B. Each member of the Participant Committee shall serve for a term
of one calendar year from the date of his or her appointment or for the
remainder of his or her term as a Public Director, as applicable, and
until the due appointment of his or her successor, or until his or her
earlier resignation or removal, with or without cause, as a member of
the Participant Committee or as a Public Director. A member of the
Participant Committee may serve for multiple terms.
C. The Participant Committee shall determine the standards and
requirements for initial and continuing membership or participation
eligibility; review appeals of Company staff denials of Participant,
Executing Participant and Liquidity Provider applications; and approve
measures that would result in different categories or classes of
Company membership. In reviewing staff denials, the Participant
Committee shall not uphold any such Company staff denial if the
relevant application satisfies the standards and requirements that the
Participant Committee sets forth. The Participant Committee shall not,
and shall not permit the Company to, restrict access or impose burdens
on access in a discriminatory manner, within each category or class of
Participants or between similarly situated categories or classes of
Participants.
Rule 2.10 Nominating Committee
A. The Nominating Committee shall be a standing committee of the
Board consisting of at least 51 percent Public Directors, as appointed
from time to time. No less than two Public Directors shall serve on the
Nominating Committee.
B. Each member of the Nominating Committee shall serve for a term
of one calendar year from the date of his or her appointment or for the
remainder of his or her term as a Public Director, as applicable, and
until the due appointment of his or her successor, or until his or her
earlier resignation or removal, with or without cause, as a member of
the Nominating Committee or as a Public Director. A member of the
Nominating Committee may serve for multiple terms.
C. The Nominating Committee shall identify individuals qualified to
serve on the Board, consistent with criteria approved by the Board, and
with the composition requirements set forth in the Rules or Operating
Agreement. The Nominating Committee shall administer a process for the
nomination of individuals to the Board. The Board shall delegate
sufficient authority, dedicate sufficient resources, and allow
sufficient time for the Nominating Committee to fulfill its mandate.
The Nominating Committee shall make such recommendations to the Board
that will, in its judgment, best promote the interests of the Company.
The Nominating Committee shall also have such other powers and perform
such other duties as set forth in the Rules and as the Board may
delegate to it from time to time.
Rule 2.11 Disciplinary Panel and Appeals Committee
A. The Disciplinary Panel shall be:
1. a standing committee consisting of at least three members,
including at least one person who would not be disqualified
from serving as a Public Director who will serve as the
chairperson, as appointed from time to time. At least one
member of the Disciplinary Panel must be a Participant or an
employee of a Participant. The Board may establish more than
one Disciplinary Panel. The Regulatory Oversight Committee will
appoint individuals for membership on the Disciplinary Panel.
Each Disciplinary Panel shall include members with sufficient
differing experience and Participant interests so as to ensure
fairness and to prevent special treatment or preference for any
Person.
2. responsible for conducting hearings, rendering decisions,
and imposing sanctions with respect to any Disciplinary Action.
The Disciplinary Panel shall also have such other powers and
perform such other duties as set forth in the Rules and as the
Board may determine from time to time.
B. Each member of the Disciplinary Panel shall serve for a term of
two calendar years from the date of his or her appointment, and until
the due appointment of his or her successor, or until his or her
earlier resignation or removal, with or without cause, as a member of
the Disciplinary Panel. A member of the Disciplinary Panel may serve
for multiple terms.
C. The Appeals Committee shall be:
1. a standing committee consisting of at least three members
of the Board. The members of the Appeals Committee and its
Chairperson shall be appointed by the Chairperson of the Board,
provided that, at all times the Appeals Committee shall include
at least one Public Director who shall serve as the Chairperson
of the Appeals Committee.
2. responsible for conducting hearings of appeals of
decisions of the Disciplinary Panel, rendering decisions of
such appeals, and imposing sanctions with respect to such
appeals. The Appeals Committee shall also have such other
powers and perform such other duties as set forth in these
Rules and as the Board may determine from time to time.
D. Each member of the Appeals Committee shall serve for a term of
one calendar year from the date of his or her appointment or for the
remainder of his or her term as a Public Director, as applicable, and
until the due appointment of his or her successor, or until his or her
earlier resignation or removal, with or without cause, as a member of
the Appeals Committee or as a Public Director. A member of the Appeals
Committee may serve for multiple terms.
Rule 2.12 Emergency Rules
A. During an Emergency, the Company may implement temporary
emergency procedures and rules pursuant to Rule 2.12D, subject to the
applicable provisions of the CEA and CFTC Regulations.
B. The Chief Executive Officer or his or her designee and the Chief
Compliance Officer or his or her designee, acting in conjunction or, if
it is not possible to act in conjunction, acting alone, are authorized
to determine whether an Emergency exists and whether Emergency Rules or
Emergency Actions are warranted. Emergency Rules may require or
authorize the Company, the Board, any committee of the Board or any
Officer to take Emergency Actions, including, but not limited to, the
following actions:
1. suspend or curtail trading in, or limit trading to
liquidation, for any Company Contract;
2. extend or shorten the last trading date for any Company
Contract;
3. provide alternative settlement mechanisms for any Company
Contract (including by altering the settlement terms or
conditions or fixing the settlement price) or suspend the
transfer of the Underlying;
4. order the transfer or liquidation of open positions in any
Company Contract; provided that if a Company Contract is
fungible with a contract on another platform in addition to the
Company, the liquidation or transfer of open interest in such
Company Contract will be ordered only as directed, or agreed
to, by CFTC staff or the CFTC;
5. extend, shorten or change the Trading Hours or the
expiration date of any Company Contract;
6. require Participants to meet special margin requirements;
7. order the transfer of Company Contracts and the associated
margin or alter any Company Contract's settlement terms or
conditions;
8. impose or modify position limits, price limits, and
intraday market restrictions; or
9. any other action, if so directed by the CFTC.
C. Before taking an Emergency Action, the effects of such Emergency
Action on markets underlying the Company Contract(s) affected by such
Emergency Action, on markets that are linked or referenced to such
Company Contracts and similar markets on other trading venues, or any
potential conflicts of interest shall be considered and documented as
required under Rule 2.12F.
D. Before any Emergency Rule may be adopted and enforced, the
Regulatory Oversight Committee shall approve the implementation of such
Emergency Rule at a duly convened meeting. If the Chief Executive
Officer, or his or her designee, or if the Chief Executive Officer or
his or her designee is unavailable, the Chief Compliance Officer, or
his or her designee, determines that Emergency Rules must be
implemented with respect to an Emergency before a meeting of the
Regulatory Oversight Committee can reasonably be convened, then the
Chief Executive Officer, or his or her designee, or if the Chief
Executive Officer or his or her designee is unavailable, the Chief
Compliance Officer, or his or her designee, shall have the authority,
without Board or committee action, to implement any Emergency Rules
with respect to such Emergency that he or she deems necessary or
appropriate to respond to such Emergency. In such circumstances, the
Chief Executive Officer, or his or her designee, or if the Chief
Executive Officer or his or her designee is unavailable, the Chief
Compliance Officer, or his or her designee, must convene a meeting of
the Regulatory Oversight Committee to ratify the actions taken by the
Chief Executive Officer, or his or her designee, or the Chief
Compliance Officer, or his or her designee, as soon as practicable.
Whenever the Company implements an Emergency Rule or takes an Emergency
Action, a duly authorized representative of the Company, where
possible, will inform Participants through a Participant Notice.
E. The Company will use reasonable efforts to notify the CFTC and
the Board prior to implementing, modifying or terminating an Emergency
Rule. If such prior notification is not possible or practicable, the
Company will notify the CFTC and the Board as soon as possible or
reasonably practicable, but in any event no longer than 24 hours after
implementing, modifying or terminating an Emergency Rule.
F. Upon taking any Emergency Action, the Company will document the
decision-making process related to such Emergency Action, including the
process for minimizing conflicts of interest, the extent to which the
Company considered the effect of its Emergency Action on the Underlying
markets and on markets that are linked or referenced to the contract
market and similar markets on other trading venues, and reasons for
using emergency authority under this Rule 2.12. Such documentation will
be maintained in accordance with Rule 2.14.
G. The Chief Executive Officer, or his or her designee, or if the
Chief Executive Officer or his or her designee is unavailable, the
Chief Compliance Officer, or his or her designee, may determine that an
Emergency has been reduced sufficiently to allow the Company to resume
normal functioning, in which case any Emergency Actions responding to
such Emergency will be terminated and a duly authorized representative
of the Company will inform Participants through a Participant Notice.
H. Participants must promptly notify the Company of any
circumstance that may give rise to a declaration of an Emergency.
Rule 2.13 Conflicts of Interest
A. Named Party in Interest Conflict
1. No member of the Board, Oversight Panel or Disciplinary
Panel shall participate in such body's deliberations or voting
in any matter involving a named party in interest where such
member:
a. is the named party in interest in the matter;
b. is an employer, employee or fellow employee of a
named party in interest;
c. is associated with a named party in interest
through a ``broker association'' as defined in CFTC
Regulation 156.1;
d. has any other significant, ongoing business
relationship with a named party in interest, excluding
relationships limited to Company Contracts; or
e. has a family relationship (i.e., the member's
spouse, parents, children, and siblings, in each case,
whether by blood, marriage, or adoption, or any person
residing in the home of the member or that of his or
her immediate family) with a named party in interest.
2. Prior to consideration of any matter involving a named
party in interest, each member of the deliberating body shall
disclose to the Chief Compliance Officer whether such member
has one of the relationships listed above with a named party in
interest.
3. The Chief Compliance Officer shall determine whether any
member of the relevant deliberating body is subject to a
conflicts restriction under this Rule 2.13A. Such determination
shall be based upon a review of the following information:
a. information provided by such member pursuant to
clause (2) above; and
b. any other source of information that is held by
and reasonably available to the Company.
B. Financial Interest in a Significant Action Conflict
1. No member of the Board, Oversight Panel or Disciplinary
Panel shall participate in the body's deliberations or voting
on any significant action if such member knowingly has a direct
and substantial financial interest in the result of the vote
based upon either Company or non-Company positions that could
reasonably be expected to be affected by the action.
2. Prior to consideration of any significant action, each
member of the deliberating body who does not choose to abstain
from deliberations and voting shall disclose to the Chief
Compliance Officer any information that may be relevant to a
determination of whether such member has a direct and
substantial financial interest in the result of the vote.
3. The Chief Compliance Officer shall determine whether any
member of the relevant deliberating body who does not choose to
abstain from deliberations and voting is subject to a conflicts
restriction under this Rule 2.13B. Such determination shall be
based upon a review of the following information:
a. the most recent large trader reports and clearing
records available to the Company;
b. gross positions held at the Company in the
member's personal accounts or ``controlled accounts,''
as defined in CFTC Regulation 1.3(j);
c. gross positions held at the Company in proprietary
accounts, as defined in CFTC Regulation 1.17(b)(3), at
the member's affiliated firm;
d. gross positions held at the Company in accounts in
which the member is a principal, as defined in CFTC
Regulation 3.1(a);
e. net positions held at the Company in ``customer''
accounts, as defined in CFTC Regulation 1.17(b)(2), at
the member's affiliated firm;
f. any other types of positions, whether maintained
at the Company or elsewhere, held in the member's
personal accounts or the proprietary accounts of the
member's affiliated firm that the Chief Compliance
Officer reasonably expects could be affected by the
significant action;
g. information provided by such member pursuant to
clause (2) above; and
h. any other information reasonably available to the
Company, taking into consideration the exigency of the
significant action being contemplated.
4. Any member who would otherwise be required to abstain from
deliberations and voting pursuant to clause (1) above may
participate in deliberations, but not in voting, if the
deliberating body, after considering the factors specified
below, determines that such participation would be consistent
with the public interest; provided, however, that before
reaching any such determination, the deliberating body will
fully consider the information specified in clause (3) above
which is the basis for such member's direct and substantial
financial interest in the significant action that is being
contemplated. In making its determination, the deliberating
body shall consider:
a. whether such member's participation in the
deliberations is necessary to achieve a quorum; and
b. whether such member has unique or special
expertise, knowledge or experience in the matter being
considered.
C. The minutes of any meeting to which the conflicts determination
procedures set forth in this Rule apply shall reflect the following
information:
1. the names of all members who participated in such meeting;
2. the name of any member who voluntarily recused himself or
herself or was required to abstain from deliberations or voting
on a matter and the reason for the recusal or abstention, if
stated;
3. the information that was reviewed for each member of the
relevant deliberating body; and
4. any determination made in accordance with Rule 2.13A.3 or
Rule 2.13B.4 above.
Rule 2.14 Recordkeeping
A. The Company shall keep, or cause to be kept, complete and
accurate books and records of accounts and activities of the Company,
including all books, records and other documentation required to be
maintained pursuant to the CEA and CFTC Regulations.
B. The Company shall retain all such books and records in
accordance with the CEA and CFTC Regulations.
C. The Company will provide information required to be maintained
or provided pursuant to the CEA and CFTC Regulations to the Commission,
the U.S. Securities and Exchange Commission, the U.S. Department of
Justice or any representative of a prudential regulator as authorized
by the Commission, upon request, in each case in the form and manner
required under these Rules, and/or the CEA and CFTC Regulations.
Rule 2.15 Information-Sharing Agreements
A. The Company may enter into information-sharing agreements or
other arrangements or procedures to coordinate surveillance with other
markets on which financial instruments related to the Company Contracts
trade. As part of any information-sharing agreements or other
arrangements or procedures adopted pursuant to this Rule, the Company
may:
1. provide market surveillance reports to other markets;
2. share information and documents concerning current and
former Participants or Authorized Users with other markets;
3. share information and documents concerning ongoing and
completed investigations with other markets; or
4. require its current or former Participants or Authorized
Users to provide information and documents to the Company at
the request of other markets with which the Company has an
information-sharing agreement or other arrangements or
procedures.
B. The Company may enter into any information-sharing agreements or
other arrangements or procedures, including an information-sharing
agreement or other arrangement or procedure similar to that described
above in paragraph (A), with any Person or body (including but not
limited to a Regulatory Agency or Swap Data Repository) if the Company
considers such agreement, arrangement or procedures to be in
furtherance of the Company's purpose or duties under these Rules or
Applicable Law.
C. The Company may provide information to a duly authorized foreign
governmental authority, as directed by the CFTC, in accordance with an
information-sharing agreement or other arrangements or procedures
executed with such foreign governmental authority or the CFTC.
Rule 2.16 Recordkeeping and Reporting Requirements
A. In the event the Board rejects a recommendation or supersedes an
action of the Regulatory Oversight Committee, the Risk Management
Committee or the Chief Compliance Officer, the Company shall maintain
documentation detailing: (1) the recommendation or action of the
Regulatory Oversight Committee, the Risk Management Committee or the
Chief Compliance Officer, as the case may be; (2) the rationale for
such recommendation or action; (3) the rationale of the Board for
rejecting such recommendation or superseding such action; and (4) the
course of action that the Board decided to take contrary to such
recommendation or action.
B. In the event that the Risk Management Committee rejects a
recommendation or supersedes an action of any of its subcommittees, the
Company shall maintain documentation detailing (1) the recommendation
or action of the subcommittee; (2) the rationale for such
recommendation or action; (3) the rationale of the Risk Management
Committee for rejecting such recommendation or superseding such action;
and (4) the course of action that the Risk Management Committee decided
to take contrary to such recommendation or action.
C. In accordance with Rule 6.7, the Company shall report all
Transactions of Swaps subject to reporting by the Company pursuant to
applicable CFTC Regulations to a Swap Data Repository selected by the
Company for such purpose within the time limits set forth in CFTC
Regulations. Parties to a Transaction where reporting is required shall
be responsible for any of their own reporting obligations. Participants
shall include with any Order sufficient information to enable the
Company to report all Required Swap Creation Data pursuant to Part 45
of CFTC Regulations, including but not limited to the information
prescribed under Rule 5.2B.10 (to the extent such information is not
pre-populated by the Platform). Participants may provide certain data
to the Company in the Participant Application and Agreement, such as
whether the Participant is a U.S. person, swap dealer, major swap
participant, or financial entity as defined in the Participant
Application and Agreement. Participants must inform the Company
immediately of any change in status that would affect data to be
reported to a Swap Data Repository in accordance with Rule 6.7.
D. The Company shall record and report to the CFTC all data
required to be reported to the CFTC under Part 16 of CFTC Regulations,
in the form and manner required by CFTC Regulations.
E. The Company shall keep and maintain books and records
identifying each Order submitted to the Company and each Transaction
effected pursuant to these Rules, including the identification of the
execution method (e.g., central limit order book, Block Trade, EFP)
with respect to each such Order and Transaction. These books and
records shall be kept and maintained in accordance with the CEA and
CFTC Regulations.
F. The Company shall submit to the CFTC within thirty days after
each Board election a list of the Board's Directors, the Participant
interests they represent, and how the composition of the Board meets
the requirements of CFTC Regulation 1.64(b) and the Company's Rules and
procedures.
Rule 2.17 Public Information
A. Accurate, complete and current copies of these Rules and Company
Contract Specifications shall be published on the Website.
B. The Company shall make public on a daily basis information on
settlement prices, volume, open interest, and opening and closing
ranges for actively traded Company Contracts.
C. Except as provided herein, the Company shall publish on its
Website a Participant Notice with respect to each addition to,
modification of, or clarification of, the Rules, the Matching Engine,
and any Company Contract Specification prior to the earlier of:
1. the effective date thereof; and
2. the filing of such change with the Commission.
D. If confidential treatment is sought with respect to any
information the Company submits to a Regulatory Agency, only the public
version of such filing shall be disclosed pursuant to Rule 2.17C.
E. Any Participant Notice shall be deemed to have been made to all
Participants and any other such Person as may be required by sending
such Participant Notice to the email address on file with the Company
and by posting the Participant Notice on the Website.
F. Any information published in accordance with this Rule 2.17
shall specify whether it applies to the Company DCM, and/or the Company
DCO, and/or the Company SEF.
Chapter 3 Participants
Rule 3.1 Jurisdiction, Applicability of Rules
A. Any person, including a participant or an authorized user,
directly or indirectly initiating, executing, and/or clearing a
transaction on the company or subject to these rules, and any person
for whose benefit such a transaction has been initiated or executed, or
cleared, including customers, and an authorized representative and, for
the avoidance of doubt, an FCM participant, executing participant and a
liquidity provider, and any employee or agent of a participant, and any
other person accessing the platform: (i) agrees to be bound by and
comply with these rules, the obligations and applicable law, in each
case to the extent applicable to such person; (ii) expressly consents
and submits to the jurisdiction of the company with respect to any and
all matters arising from, related to, or in connection with, the
status, actions or omissions of such person; and (iii) agrees to assist
the company in complying with the company's legal and regulatory
obligations, cooperate with the company, the CFTC and any regulatory
agency with jurisdiction over the company in any inquiry,
investigation, audit, examination or proceeding. Any amendments to or
the repeal of a rule, or the adoption of a new rule, shall, upon the
effective date of such amendment, repeal or adoption, as applicable, be
binding on all persons subject to the jurisdiction of the company,
regardless of when such person became subject to the company's
jurisdiction, and on all company contracts as applicable.
B. All company participants are also subject to the jurisdiction of
the CFTC regardless of location, nationality, citizenship, or place of
incorporation.
Rule 3.2 Participants--Applications, Agreements, Eligibility Criteria,
Classifications and Privileges
LedgerX LLC will provide access to the Platform (including but not
limited to the central limit order book) and related services in an
impartial, transparent, fair and non-discriminatory manner.
A. Each Participant shall have the right to access
electronically the Platform, including the right to place
Orders for each of its Proprietary Accounts, provided that such
Participant is eligible for and has applied and received
Trading Privileges and Clearing Privileges. In order to become
a Participant, an applicant must:
1. complete and submit the Company Participant
Application and Agreement, User Agreement, and
application fee, as may be established by the Company
from time to time;
2. not be subject to any economic or trade sanctions
programs administered by OFAC or other relevant U.S. or
non-U.S. authority, and must not be listed on OFAC's
List of Specially-Designated Nationals and Blocked
Persons, or if applicant is an entity, not include any
such person among its beneficial owners;
3. (for U.S. applicants:) if an applicant is an
entity, be validly organized, and in good standing, in
the United States;
4. (for Singapore applicants:) if an applicant is an
entity, be validly organized, and in good standing, in
Singapore; and must not be listed as a designated
individual or entity as to terrorism or targeted
financial sanctions by the Money Authority of
Singapore;
5. (for Singapore applicants:) if an applicant is a
natural person, be a citizen of Singapore; and must not
be listed as a designated individual or entity as to
terrorism or targeted financial sanctions by the Money
Authority of Singapore;
6. (for non-U.S. applicants:) if an applicant is an
entity, be validly organized and in good standing in
its jurisdiction of organization, and
7. as applicable, be an Eligible Contract Participant
in order to gain impartial access to the Company SEF
and any SEF services, to clear trades executed on a SEF
through the Company DCO, or to enter into Block Trades
on the Company DCM, or to clear Block Trades executed
on a DCM through the Company DCO;
8. not be prohibited from using the services of the
Company for any reason whatsoever;
9. have a good reputation and business integrity and
maintain adequate financial resources and credit;
10. not have filed for bankruptcy and not be
insolvent;
11. designate at least one Authorized User (or in the
case of a natural person Participant, such Person shall
be deemed to be the Authorized User);
12. if an applicant is an entity, designate at least
two Authorized Representatives (or in the case of a
natural person Participant, such Person shall be deemed
to be the sole Authorized Representative) who are
responsible for supervising all activities of the
Participant, its Authorized User(s) and its employees
relating to Transactions, for making withdrawal
requests and for providing any information the Company
may request regarding such Participant; provided, that
upon request the Company may permit an entity applicant
to designate a single Authorized Representative in the
Chief Compliance Officer's sole discretion; and
13. meet any other criteria and provide the Company
with any other information the Company may request
regarding the Participant.
B. Each FCM Participant shall have the right to access
electronically the Platform, including the right to place
Orders for each of its Proprietary Accounts or Customer
Accounts, provided that such FCM Participant is eligible for
and has applied and received Trading Privileges and Clearing
Privileges. The Company does not currently have any FCM
Participants or other Participants that may execute
intermediated trades. In order to become an FCM Participant, an
FCM applicant must:
1. satisfy the conditions in Rule 3.2A;
2. be validly organized and in good standing, in the
United States;
3. have sufficient operational capabilities and
resources to support the Platform and Underlying
transfer requirements, including sufficient: (a)
policies and procedures, (b) understanding of and
support for the Company Contracts and transfers of the
Underlying, (c) asset security and cyber security
procedures and (d) AML controls;
4. have sufficient ability, appropriate accounts and
technical support to clear the Underlying, including
maintenance of the requisite Collateral Accounts at all
times;
5. submit to the Company a letter confirming that the
applicant will maintain all Customer Funds deposited
with it in connection with trading any Company Contract
in appropriately labeled and segregated Customer
Accounts, as required by Commission regulations;
6. if the FCM applicant seeks to facilitate trading
on the Company SEF or another SEF that clears through
the Company DCO, agree to confirm that each Customer
trading through such SEF represents that it is an ECP;
7. if the FCM applicant seeks to facilitate Block
Trades for one or more Customers, agree to confirm that
each Customer executing a Block Trade represents that
it is an ECP; and
8. meet any other criteria or complete any additional
applications that the Company may request.
C. Prior to becoming an FCM Participant, FCM applicants must
submit to the Company: (i) a guarantee agreement on a form
prescribed by the Company defining the FCM Participant's
obligation to financially guarantee the applicant's Orders and
Transactions and those of the applicant's Customers, signed by
the FCM Participant; and (ii) an agreement authorizing the
Company to unilaterally debit any Collateral Accounts in
accordance with these Rules, Company policies and procedures
and in amounts solely determined by the Company.
D. The Company may in its sole discretion approve, deny, or
condition any FCM Participant application as the Company deems
necessary or appropriate.
E. If an FCM Participant application is approved by the
Company, the applicant will be a FCM Participant of the Company
with Trading Privileges and Clearing Privileges with respect to
its Customers and its Proprietary Account, as applicable.
F. To be eligible to become an Executing Participant, an
applicant must:
1. satisfy the conditions in Rule 3.2A;
2. complete the Executing Participant representation
of the Participant Application and Agreement;
3. with respect to trading on the Company SEF, or
trading through another SEF that clears through the
Company DCM, agree to confirm that each Customer
trading through such SEF represents that it is an ECP;
4. if the Executing Participant seeks to facilitate
Block Trades for one or more Customers, agree to
confirm that each Customer executing a Block Trade
represents that it is an ECP; and
5. be registered as a futures commission merchant,
introducing broker or commodity trading advisor, or be
exempt from registration as such.
G. Submission of a Participant Application and Agreement to
the Company constitutes the applicant's agreement to be bound
by the Rules and the published policies of the Company.
H. No person affiliated, within the meaning of Section
5b(c)(2)(O) of the CEA, with a director of the Company or a
Participant (for purposes of this Rule, an ``affiliate'') shall
meet criteria for refusal to register a person under Section
8a(2) of the CEA; unless the Risk Management Committee finds
that there are special circumstances warranting the waiver of
such disqualification with respect to the affiliate.
1. With respect to affiliates, the Board shall be
entitled to rely on a representation from the relevant
director or Participant that, to the best of such
person's knowledge, none of its affiliates is subject
to disqualification pursuant to the Company's fitness
standards and that such person will notify the Company
if at any time such director or Participant becomes
aware that any such affiliate fails to meet the fitness
standards.
2. Section 5b(c)(2)(O)(ii)(IV) of the CEA requires
each DCO to establish Fitness Standards for persons
with direct access to the settlement or clearing
activities of the DCO (``Access Persons''). The only
persons with such access are Participants.
I. Applicants for Participant status of the Company may
withdraw their applications at any time without prejudice or
without losing their right to apply at a future time.
J. Company staff may, in its sole discretion, approve, deny,
or condition any Participant application as Company staff deems
necessary or appropriate.
1. In the event that Company staff decides to decline
or condition an application for admission as a
Participant, or to terminate a Person's status as
Participant, Company staff shall notify such Person
thereof in a written notice sent to the address
provided by the Person in the Participant Application
and Agreement or maintained in the Company's registry
of Participants. The written notice will specify the
basis for the Company's decision. Such Person may,
within 28 Business Days, request in writing that the
Participant Committee reconsider the determination.
2. Within 28 Business Days of receiving a request for
reconsideration, the Participant Committee shall
confirm, reverse or modify the denial, condition or
terminate the Participant status of such Person, and
shall promptly notify such Person accordingly in
writing. The Participant Committee may, in its sole
discretion, schedule a hearing (in person or by
teleconference), request additional information from
such Person or establish any other process that it
believes is necessary or appropriate to consider the
request for reconsideration.
3. The Participant Committee's decision is the final
action of the Company and is not subject to appeal
within the Company.
K. Upon approval by the Company of an applicant's Participant
Application and Agreement, the applicant will be deemed to be a
Participant, and shall continue to comply with all applicable
eligibility criteria in this Rule or as the Company may
require, and shall have the following privileges, which the
Company may revoke, amend, or expand in accordance with, or by
amending, these Rules:
1. Trading Privileges and Clearing Privileges;
2. To intermediate the execution of Customer
Transactions on the Company, if approved as an
Executing Participant;
3. To intermediate Orders and clear Transactions on
behalf of Customers, if approved as an FCM Participant;
and
4. To distribute Company data to its Customers
pursuant to any data distribution agreement with the
Company.
L. The Company will apply Participant access criteria in a
fair and non-discriminatory manner that is not anti-
competitive.
Rule 3.3 Participant Obligations
A. Each Participant and any Authorized User(s) thereof, must comply
with these Rules, applicable provisions of the CEA and relevant CFTC
Regulations. Each Participant and any Authorized User(s) thereof also
must cooperate promptly and fully with the Company, its agents, and the
CFTC in any investigation, call for information, inquiry, audit,
examination, or proceeding. Such cooperation shall include providing
the Company with access to information on the activities of such
Participant and/or its Authorized User(s) in any referenced market that
provides the underlying prices for any Company market. If any
Participant or Authorized User thereof fails to satisfy any Obligation,
the Company may revoke or suspend the Participant's privileges in full
or in part. Each Participant also may be subject to civil or criminal
prosecution.
B. Each Participant consents to allow the Company to provide all
information the Company has about the Participant, including the
Participant's and Customers' trading activity, to the CFTC or any other
Regulatory Agency, law enforcement authority, or judicial tribunal,
including (as may be required by information-sharing agreements or
other arrangements or procedures or other contractual, regulatory, or
legal provisions) foreign regulatory or self-regulatory bodies, law
enforcement authorities, or judicial tribunals without notice to the
Participant.
C. Each Participant consents to the Company providing information
related to Know Your Customer or Anti-Money Laundering to Settlement
Banks or potential Settlement Banks.
D. Each Participant must establish and maintain cyber security
policies and procedures to protect each such Participant's systems,
including, but not limited to, any API.
E. Each Participant must represent to the Company that each such
Participant has established and maintains an account to hold Underlying
and will adhere to the Company's collateral transfer procedures. Each
Participant agrees to provide and accept collateral when required to do
so by the Company.
F. Each Participant and Customer, upon a request of the Company or
any Regulatory Agency, must promptly respond to any requests for
information, including by providing any necessary information for the
Company to perform any of the functions described in the CEA.
G. Participant Recordkeeping:
1. Swaps. With respect to each Company Contract that is a
Swap, each Participant and Customer must prepare, maintain,
keep current and retain those books and records for the life of
each Swap, including records of the instrument used as a
reference price, underlying commodities and related derivatives
market for 5 years following the termination of such Swap, and
any other books and records required by these Rules, the CEA
and the CFTC's Regulations for the time period required by
these Rules, the CEA and the CFTC's Regulations.
2. Futures Contracts. With respect to each Company Contract
that is a futures contract (including any option on a futures
contract), each Participant and Customer must prepare,
maintain, keep current and retain those books and records of
the trading activity, including records of the instrument used
as a reference price, underlying commodities and related
derivatives market for 5 years following execution of the
Company Contract, and any other books and records required by
these Rules, the CEA and the CFTC's Regulations for the time
period required by these Rules, the CEA and the CFTC's
Regulations.
3. The books and records required to be kept under
subparagraphs 1 and 2 above shall be readily accessible for
inspection and promptly provided to the Company, its designated
Self-Regulatory Organization, the CFTC, the U.S. Securities and
Exchange Commission or the U.S. Department of Justice, upon
request, in each case in the form and manner required under
these Rules, and/or the CEA and CFTC Regulations.
H. Each Participant must immediately notify the Company in writing
upon becoming aware:
1. that the Participant, any of the Participant's officers or
any of the Participant's Authorized Users has had trading or
clearing privileges suspended, access to, or membership or
clearing membership in any Regulatory Agency denied;
2. that the Participant, any of the Participant's officers or
any of the Participant's Authorized Users has been convicted
of, pled guilty or no contest to, or entered a plea agreement
to any felony in any domestic, foreign or military court, or
with the CFTC, as applicable;
3. that the Participant, any of the Participant's officers or
any of the Participant's Authorized Users has been convicted
of, plead guilty or no contest to, or entered a plea agreement
to a misdemeanor in any domestic, foreign or military court, or
with the CFTC, as applicable, which involves:
a. embezzlement, theft, extortion, fraud, fraudulent
conversion, forgery, counterfeiting, false pretenses,
bribery, gambling, racketeering, or misappropriation of
funds, securities or properties; or
b. any Transaction in or advice concerning swaps,
futures, options on futures or securities;
4. that the Participant, any of the Participant's officers or
any of the Participant's Authorized Users has been subject to,
or associated with a firm that was subject to, regulatory
proceedings before any Regulatory Agency;
5. of any other material change in any information contained
in the Participant's application, including any failure to
continue to meet the requirements to be an Eligible Contract
Participant with respect to trading activity on the Company SEF
or any SEF that clears through the Company DCO, Block Trades or
any change in status as a swap dealer, major swap participant
or financial entity;
6. of becoming the subject of a bankruptcy petition,
receivership proceeding, or the equivalent, or being unable to
meet any financial obligation as it becomes due;
7. of information that concerns any financial or business
developments that may materially affect the Participant's
ability to continue to comply with applicable participation
requirements;
8. as applicable to FCM Participants and Executing
Participants, of becoming subject to early warning reporting
under CFTC Regulation 1.12; or
9. as applicable to FCM Participants, of any failure to
segregate or maintain adequate Customer Funds as required by
the CFTC and CFTC Regulations.
I. Each Participant must diligently supervise all activities of the
Participant's employees and/or agents, including all Authorized Users
and Authorized Representatives, relating to Orders, Transactions and
communications with the Company. Any violation of these Rules by any
employee, Authorized Representative or Authorized User of a Participant
may constitute a violation of the Rules by such Participant.
J. Each Participant must inform the Company of: (i) its LEI, if
applicable, (ii) any change to its email address within 24 hours after
such change; (iii) any changes to the regulatory registration
information of the Participant's Authorized Users within two Settlement
Bank Business Days of such change; and (iv) other information provided
in the Participant Application and Agreement within 5 days after any
such change.
K. Each FCM Participant also must:
1. Comply with the financial and reporting requirements set
forth by the Commission and the NFA, including the requirements
contained in Commission Regulations 1.10 and 1.17.
2. Require Customers to maintain and provide to the FCM
Participant or the Company upon request by the FCM Participant
or the Company information identifying any individual who has
entered orders on behalf of such Customer's Account, including,
but not limited to, the individual's name, taxpayer or other
identification number, affiliation to the Customer, address and
contact information.
3. At all times maintain the financial resources at or in
excess of the amount prescribed by the Company from time to
time.
4. Maintain a Customer Account that holds Customer Funds with
the Company and may maintain a Proprietary Account that holds
the FCM Participant's proprietary funds with the Company.
5. Maintain a separately identifiable Customer ID for each
Customer and provide such Customer ID with every Order
submitted on the Platform on behalf of a Customer.
6. Include in the FCM Participant's Customer Account separate
Customer IDs for each Customer based on the Customer ID that
the FCM Participant transmits with each Order.
7. Make an initial deposit of funds in an amount determined
by the FCM Participant, subject to the Company requiring a
greater amount, constituting the FCM Participant's residual
interest therein, into a Customer Account for excess collateral
with the Company.
8. Submit statements of financial condition at such times and
in such manner as shall be prescribed from time to time.
9. Use due diligence in receiving and handling Orders from
Customers, submitting such Orders on the Platform on behalf of
such Customers, responding to inquiries from Customers about
their Orders and reporting back to Customers the execution of
such Orders.
10. Maintain policies and procedures acceptable to the
Company that:
a. with respect to each Customer who is an
individual, restricts access to any system through
which such individual Customer submits Orders to the
FCM Participant for transmission to the Company to that
individual Customer; and
b. with respect to each Customer who is not an
individual: (1) restricts access to any system through
which the Customer's Orders may be submitted to the FCM
Participant for transmission to the Company to such
individuals authorized to enter Orders on behalf of
such Customer; (2) requires each Customer who is not an
individual, with respect to Swaps, to have and maintain
an LEI, which shall be provided to the Company with
each order message submitted by such Person; (3)
identifies each individual authorized to enter Orders
on behalf of such Customer by a distinct Customer ID,
which shall be provided to the FCM Participant and the
Company with each order message submitted by such
Person; and (4) requires the customer to maintain and
provide to the FCM Participant or the Company upon
request by the FCM Participant or the Company
information identifying any individual who has entered
Orders on behalf of such Customer's account, including
but not limited to the individual's name, taxpayer or
other identification number, affiliation to the
Customer, address and contact information.
11. Prior to an FCM Participant accepting any Orders from a
Customer for submission to the Company:
a. an FCM Participant must first have provided such
Customer with the Company Risk Disclosure Statement;
b. the Company will require certification by the FCM
Participant to the Company that its system has the
capacity to block Customer Funds such that the relevant
Customer Account maintains sufficient funds to cover
the Customer's maximum loss under the Company Contract
before the FCM Participant enters the Order and that
the FCM Participant demonstrate that capacity to the
Company. In addition, on an annual basis or as
otherwise required by the Company, each FCM Participant
must represent to the Company that the portion of the
FCM Participant's system that blocks Customer Funds has
not been changed in any material respect or, if the
system has been changed, the FCM Participant must
identify any such changes and recertify the system's
capacity to block Customer Funds. Finally, each FCM
Participant agrees to submit to any compliance review
by the Company of its systems in this regard.
12. With respect to the Associated Persons or employees of a
FCM Participant:
a. Each FCM Participant shall be responsible for
diligently supervising the FCM Participant's Associated
Persons' or employees' compliance with all Company
Rules.
b. Each FCM Participant must maintain a complete and
accurate list of all Associated Persons or employees of
the FCM Participant. Such list shall be promptly
provided to the Company upon request.
c. Associated Persons or employees must comply with
Company Rules.
d. Each Associated Person or employee shall be bound
by Company Rules to the same extent as if such person
were a Participant.
e. Each FCM Participant shall be responsible for the
acts or omissions of the FCM Participant's Associated
Persons or employees, and may be liable for any fines
imposed upon such Associated Persons or employees by
the Company. Any violation of a Company rule by any
such Associated Persons or employee may be considered a
violation by the FCM Participant.
13. Make and file reports in accordance with CFTC Regulations
in a manner and form and at such times as may be prescribed by
the Commission.
14. Make and file reports with the Company at such times, in
such manner and form, and containing such information as the
Company may prescribe from time to time.
15. Invest Customer Funds only in accordance with CFTC
Regulations 22.2(e)(1) and 1.25, to the extent an FCM
Participant invests Customer Funds.
16. Prepare, maintain and keep current those books and
records required by the rules of the Company, the CEA and CFTC
Regulations. Such books and records shall be open to inspection
and promptly provided to the Company, its Designated Self-
Regulatory Organization (``DSRO''), the Commission and/or the
U.S. Department of Justice and/or the U.S. Securities and
Exchange Commission, upon request.
L. An Executing Participant must also:
1. Adhere to CFTC Regulations concerning applicable financial
resources and financial reporting requirements, including, but
not limited to, the requirements under CFTC Regulations 1.10
and 1.17, as applicable.
2. Provide a Customer ID for every Order submitted to the
Company.
3. Use due diligence in receiving and handling Orders from
Customers, submitting such Orders on the Platform on behalf of
such Customers, responding to inquiries from Customers about
their Orders and reporting back to Customers the execution of
such Orders.
4. Maintain policies and procedures acceptable to the Company
that:
a. identify each Authorized User whom the Executing
Participant has authorized to transmit Customer Orders
by a unique User ID as provided pursuant to Rule 5.1,
which User ID shall be submitted to the Company with
each Order submitted by such Authorized User;
b. permit access only to Authorized Users with
permission to enter Customer Orders on behalf of the
Executing Participant;
c. require each Customer who is not an individual,
with respect to Swaps, to have and maintain a Legal
Entity Identifier deemed acceptable under CFTC
Regulations, which shall be provided to the Company
with each order message submitted by such Person, as
applicable; and
d. require the Customer to maintain and provide, upon
request, to the Executing Participant or the Company
information identifying any individual who has entered
Orders on behalf of such Customer's account, including,
but not limited to, the individual's name, taxpayer or
other identification number, affiliation to the
Customer, address and contact information.
Rule 3.4 Customer Account Requirements for FCM Participants
A. FCM Participants must comply with the requirements set forth in
Parts 1 and 22 of CFTC Regulations. This includes, but is not limited
to, the following:
1. Maintaining sufficient funds at all times in Customer
Accounts.
2. Computing, recording and reporting completely and
accurately the balances in the Statement of Segregation
Requirements and Funds in Segregation and the Statement of
Segregation Requirements and Cleared Swaps Customer Collateral
Held in Cleared Swaps Customer Accounts.
3. Obtaining satisfactory Customer Segregated Account and/or
Cleared Swaps Customer Account acknowledgment letters and
identifying Customer Segregated Account and/or Cleared Swaps
Customer Account as such.
4. Preparing complete and materially accurate daily Customer
Segregated Account and Cleared Swaps Customer Account
computations, as applicable, in a timely manner.
B. All FCM Participants must submit a daily Customer Segregated
Account statement and a Cleared Swaps Customer Account statement, as
applicable, through Company-approved electronic transmissions by 12:00
noon on the following Settlement Bank Business Day.
C. FCM Participants must provide the Company's Compliance
Department with access to Customer Account information in a form and
manner prescribed by the Compliance Department.
D. All FCM Participants must provide written notice to the
Compliance Department of a failure to maintain sufficient funds in
Customer Accounts. The Compliance Department must receive immediate
written notification when an FCM Participant knows or should have known
of such failure.
E. Company staff may prescribe additional Customer Account
requirements.
Rule 3.5 Customer Funds Maintained With the Company
All Customer Funds deposited with the Company on behalf of
Customers shall be held in accordance with Parts 1 and 22 of the CFTC
Regulations in an account identified as a Customer Segregated Account
or a Cleared Swaps Customer Account, as applicable. Such Customer Funds
shall be segregated by the Company and treated as belonging to such
Customers of the FCM Participant. Pursuant to this rule, an FCM
Participant shall satisfy the acknowledgment letter requirement of Rule
3.4A.3 for Customer Funds held at the Company.
Rule 3.6 Dues, Fees and Expenses Payable by Participants
A. Participants are not required to pay dues.
B. Participants may be charged fees in connection with Trading
Privileges and Clearing Privileges in such amounts as may be revised
from time to time. Fees and any revisions to such fees will be provided
on the Website and in Participant Notices.
C. Participants may be charged fees for settlement of Company
Contracts at expiration in an amount to be reflected from time to time
on the Website and in Participant Notices.
D. The Company or a Settlement Bank may also deduct from a
Collateral Account fees or expenses incurred in connection with a
Participant's trading or account activity, such as fees for wire
transfers or check processing via electronic check, or storage or other
fees or expenses related to Trading Privileges or Clearing Privileges.
All such fees shall be charged in an amount to be reflected from time
to time on the Website and in Participant Notices.
E. If the Company determines in the future to impose dues or
additional fees, the Company shall notify the Participant of any dues
or additional fees that will be imposed at least 10 days before they
take effect.
Rule 3.7 Recording of Communications
The Company may record conversations and retain copies of
electronic communications between Company Officials, on one hand, and
Participants, their Authorized Users, Authorized Representatives or
other agents, on the other hand. Any such recordings may be retained by
the Company in such manner and for such periods of time as the Company
may deem necessary or appropriate. The Company shall retain such
records for the retention periods necessary to comply with CFTC
Regulation 1.35 or such longer period as the Company deems appropriate.
Rule 3.8 Independent Software Vendors
A. A person seeking to act as an Independent Software Vendor must
satisfy the Company's technological integrity requirements, complete
the necessary ISV application and access documentation, agree to abide
by these Rules and Applicable Law, consent to the jurisdiction of the
Company, and agree to not adversely affect the Company's ability to
comply with Applicable Law. Access to the Company by an ISV shall be
provided pursuant to criteria that are impartial, transparent and
applied in a fair and non-discriminatory manner. Persons seeking access
to the Company through an ISV must themselves be Participants to have
such access. ISVs shall be subject to fees as reflected from time to
time on the Website and in Participant Notices.
B. Each ISV must immediately notify the Company in writing upon
becoming aware:
1. that the ISV or any of the ISV's officers has been
convicted of, pled guilty or no contest to, or entered a plea
agreement to any felony in any domestic, foreign or military
court, or with the CFTC, as applicable;
2. that the ISV or any of the ISV's officers has been
convicted of, plead guilty or no contest to, or entered a plea
agreement to a misdemeanor in any domestic, foreign or military
court, or with the CFTC, as applicable, which involves:
a. embezzlement, theft, extortion, fraud, fraudulent
conversion, forgery, counterfeiting, false pretenses,
bribery, gambling, racketeering, or misappropriation of
funds, securities or properties; or
b. any Transaction in or advice concerning swaps,
futures, options on futures or securities;
3. that the ISV or any of the ISV's officers has been subject
to, or associated with a firm that was subject to, regulatory
proceedings before any Regulatory Agency;
4. of any other material change in any information contained
in the ISV's application;
5. of becoming the subject of a bankruptcy petition,
receivership proceeding, or the equivalent, or being unable to
meet any financial obligation as it becomes due; and
6. of information that concerns any financial or business
developments that may materially affect the ISV's ability to
continue to comply with applicable Company requirements.
C. Each ISV must inform the Company of: (i) any change to its email
address within 24 hours after such change; and (ii) other information
provided in its application for ISV status within 5 days after any such
change.
Rule 3.9 Participant Accounts and Customer Accounts
A. The Company shall establish and maintain a Participant Account
for each Participant and the Company undertakes to treat the
Participant for whom such Participant Account is maintained as entitled
to exercise the rights that comprise each financial asset which is
credited to such Participant Account. However, the Company shall have
complete and absolute discretion as to whether any particular financial
asset is accepted by it for credit to any Participant Account.
B. The Company shall establish and maintain a Customer Account for
each FCM Participant's Customers and the Company undertakes to treat
the FCM Participant for whom such Customer Account is maintained as
entitled to exercise the rights that comprise each financial asset
which is credited to such Customer Account. However, the Company shall
have complete and absolute discretion as to whether any particular
financial asset is accepted by it for credit to any Customer Account.
C. With respect to any Digital Currency, including, but not limited
to, Bitcoin, which is or may be credited to any Participant Account,
the following terms and conditions shall apply:
1. For purposes of creating a ``security entitlement'' as
such term is defined in Section 8-102(a)(17) of the UCC, the
Company and the Participant agree that: (1) the Digital
Currency and any Digital Currency wallet maintained by the
Company shall be treated as a ``financial asset'' as such term
is defined in Section 8-102(a)(9) of the UCC; and (2) each
Participant shall be treated as an ``entitlement holder'' as
such term is defined in Section 8-102(a)(7) of the UCC.
2. Each Participant acknowledges that the Company is a
``securities intermediary'' as such term is defined in Section
8-102(a)(14) of the UCC.
3. Any Digital Currency which a Participant desires be
credited to such Participant's Participant Account shall be
transferred to a Digital Currency wallet designated by the
Company and upon such transfer the Company shall indicate by
book entry that such Digital Currency has been credited to such
Participant Account.
D. With respect to any Digital Currency, including, but not limited
to, Bitcoin, which is or may be credited to any Customer Account, the
following terms and conditions shall apply:
1. For purposes of creating a ``security entitlement'' as
such term is defined in Section 8-102(a)(17) of the UCC, the
Company and the Customer and the relevant FCM Participant all
agree that: (1) the Digital Currency shall be treated as a
``financial asset'' as such term is defined in Section 8-
102(a)(9) of the UCC; and (2) each FCM Participant shall be
treated as an ``entitlement holder'' as such term is defined in
Section 8-102(a)(7) of the UCC.
2. Each Customer and each FCM Participant acknowledges that
the Company is a ``securities intermediary'' as such term is
defined in Section 8-102(a)(14) of the UCC.
3. Any Digital Currency which an FCM Participant desires be
credited to any of such FCM Participant's Customer Accounts
shall be transferred to a Digital Currency wallet designated by
the Company and upon such transfer the Company shall indicate
by book entry that such Digital Currency has been credited to
any of such Customer Accounts.
E. The Company shall have only such duties and obligations with
respect to each Participant Account and Customer Account as are set
forth in Article 8 of the UCC or otherwise mandated by Applicable Law.
Each Participant, including each FCM Participant, and each Customer
acknowledges and agrees that the Company is not a fiduciary for any
Participant, including any FCM Participant, or Customer.
Rule 3.10 Withdrawal of Participant
A. To withdraw from the Company, a Participant must notify the
Company of its withdrawal. Such withdrawal shall be accepted
immediately upon receipt of such notice by the Company and shall be
effective upon such Participant's fulfillment of its obligations under
paragraph (C) below, or at such other time as the Company may determine
in its reasonable discretion is desirable for the efficient operation
of the Company.
B. When the Company accepts the withdrawal of a Participant, all
rights and privileges of such Participant terminate (including, without
limitation, the Trading Privileges and Clearing Privileges) except as
set forth in paragraph (C) below. The accepted withdrawal of a
Participant shall not affect the rights of the Company under these
Rules or relieve the former Participant of such Participant's
obligations under the Company Rules before such withdrawal.
Notwithstanding the accepted withdrawal of a Participant, the withdrawn
Participant remains subject to the LedgerX Rules, the Obligations and
the jurisdiction of the Company for acts done and omissions made while
a Participant, must comply with paragraphs (C) and (D) below, must
cooperate in any Disciplinary Action under Chapter 9 as if the
withdrawn Participant were still a Participant, and must comply with
requests for information from the Company regarding activities and
obligations while a Participant for at least 5 years following its
withdrawal.
C. A Participant that has delivered a withdrawal notice pursuant to
paragraph (A) above shall be subject to the following requirements,
obligations and provisions:
1. it must use all reasonable endeavors to close out or
transfer all open positions in its Participant Account and each
of its Customer Accounts, as applicable, within 30 days after
the Participant has delivered a withdrawal notice pursuant to
paragraph (A) (the ``wind-down period'');
2. after delivering a withdrawal notice pursuant to paragraph
(A), it shall only be entitled to submit transactions for
clearing which it can demonstrate have the overall effect of
reducing open positions;
3. if it has any open positions with the Company (whether in
the Participant Account or any Customer Account) after the
wind-down period, the Participant shall be subject to the
Company exercising rights under Rule 7.2G to liquidate or
transfer the open positions of the Participant.
D. Any withdrawal notice delivered by a Participant pursuant to
paragraph (A) above shall be irrevocable by the Participant and
membership may only be reinstated pursuant to a new application for
membership following the close-out or transfer of all open Company
Contracts in its Participant Account and each of its Customer Accounts,
as applicable.
Chapter 4 Liquidity Providers
Rule 4.1 Application and Agreement
A. Only Participants in good standing may become Liquidity
Providers on the Company.
B. To be considered for Liquidity Provider status, a Participant
shall complete and execute a Liquidity Provider Agreement.
C. The designation of any Liquidity Provider may be suspended,
terminated or restricted by the Company at any time and for any reason.
Rule 4.2 Appointment
A. The Company may appoint one or more Liquidity Providers for
certain Company Contracts.
B. In making such appointments, the Company shall consider:
1. the financial resources available to the applicant;
2. the applicant's trading activity in relevant swaps,
futures, options on futures or related cash markets; and
3. the applicant's business reputation and experience in
market making in options and other derivative products.
C. The Company, in its sole discretion, may appoint a Participant
as a Liquidity Provider for certain Series and may appoint multiple
Liquidity Providers for certain Series.
D. No appointment of a Liquidity Provider shall be made without the
Liquidity Provider's consent to such appointment.
E. The Company shall periodically conduct an evaluation of all
Liquidity Providers to determine whether they have fulfilled
performance standards relating to, among other things, quality of the
markets; trading activity; competitive market making; observance of
ethical standards; business reputation; and administrative and
financial soundness. If the Liquidity Provider fails to meet minimum
performance standards, the Company may, among other actions, suspend,
terminate or restrict the Liquidity Provider's appointment.
Rule 4.3 Benefits
Liquidity Providers may receive reduced trading fees or other
incentives in accordance with any Liquidity Provider program in place
at the Company for fulfilling the Obligations of a Liquidity Provider
as disclosed in the applicable Liquidity Provider Agreement.
Rule 4.4 Obligations
Transactions of Liquidity Providers should constitute a course of
dealing reasonably calculated to contribute to the maintenance of a
fair and orderly market, and Liquidity Providers shall not enter Orders
or enter into Transactions that are inconsistent with such a course of
dealing. Ordinarily, Liquidity Providers shall be obligated to do the
following:
A. comply with all other terms of the applicable Liquidity
Provider Agreement; and
B. make good-faith efforts to enter on the Platform current
binding bid and offer quotes, with a bid/offer spread as
specified in the applicable Liquidity Provider Agreement, as
necessary to ensure liquidity.
Chapter 5 Method for Trading Company Contracts
Rule 5.1 User IDs
A. Each Authorized User must have a unique User ID and a CSP.
B. Each Order entered must contain a User ID that identifies the
Participant's Authorized User that entered the Order.
C. Each Order entered by an FCM Participant or Executing
Participant on behalf of a Customer must contain: (1) such Customer's
User ID or Customer ID; and (2) the User ID of the FCM Participant's or
Executing Participant's Authorized User that entered the Order.
D. For Transactions in Swaps, (1) the Reporting Counterparty shall
be established pursuant to CFTC Regulation 45.8, as may be amended from
time to time; and (2) if each Participant has equal reporting status
under CFTC Regulation 45.8, the Company shall designate the seller of a
Swap as the Participant that is the Reporting Counterparty.
E. No Person may use a User ID to place any Order except as
permitted by these Rules, nor may any Person knowingly permit or assist
with the unauthorized use of a User ID. Each Participant and Authorized
User shall ensure that no User ID is used by any Person not authorized
by these Rules. Each Participant shall establish and maintain policies
and procedures to ensure the proper use and protection of User IDs. An
Authorized User is prohibited from using another Person's User ID,
unless the Authorized User is entering the Order of a Customer in
accordance with the Rules.
F. With respect to Customers of Executing Participants, each such
Customer must provide the User ID of any of its Authorized Users to an
Executing Participant to allow the Executing Participant to enter
Orders on behalf of such Customer.
G. Each Participant shall be solely responsible for controlling and
monitoring the use of all User IDs and CSPs issued to its Authorized
Users.
H. Each Participant shall notify the Company of the need to
terminate any User IDs or the status of any of its Authorized Users.
I. Each Participant shall keep confidential and secure all User
IDs, except as permitted pursuant to these Rules, as well as all CSPs
and any account numbers and passwords related to the Platform and shall
notify the Company promptly upon becoming aware of:
1. any unauthorized disclosure or use of any User ID or CSP
and of any other compromise to a User ID or CSP that would
reasonably cause the Company to deactivate the User ID or CSP;
2. any loss of any User ID or CSP; and
3. any unauthorized access to the Company by any Person using
a User ID and/or CSP assigned to such Participant.
J. Each trading system that automates the generation and routing of
Orders to the Company must have a User ID.
Rule 5.2 Order Entry and Audit Trail
A. Each Participant and Authorized User shall enter Orders on the
Platform, and the Company shall maintain an electronic record of these
entries. Each Participant shall be responsible for any and all Orders
entered using User IDs assigned to the Participant or its Authorized
User by the Company. Trading on the Company central limit order book is
anonymous.
B. Each Participant's Authorized User entering Orders on the
Platform must input for each Order the following information (to the
extent that such information is not provided at account creation or by
the Platform):
1. the Authorized User's User ID;
2. for an Authorized User of an FCM Participant or Executing
Participant entering an order on behalf of a Customer, the User
ID of the Authorized User and the Customer ID, where
applicable, for whom such Authorized User enters an Order;
3. the Series;
4. Order type;
5. Customer Type Indicator Code;
6. buy or sell, and for options, put, call and strike;
7. price;
8. quantity;
8. such additional information as may be prescribed from time
to time by the Company; and
10. for each Order to buy or sell a Swap, the Authorized User
shall include with each such Order the following information
(to the extent that such information is not provided at account
creation or by the Platform):
a. the Legal Entity Identifier of the Participant on
whose behalf the Order is placed;
b. a yes/no indication of whether the Participant is
a swap dealer, as defined in Section 1a(49) of the CEA
and CFTC Regulations, with respect to the Swap for
which the Order is submitted;
c. a yes/no indication of whether the Participant or
Authorized User is a major swap participant, as defined
in Section 1a(33) of the CEA and CFTC Regulations, with
respect to the Swap for which the Order is submitted;
d. a yes/no indication of whether the Participant is
a financial entity, as defined in Section 2(h)(7)(C) of
the CEA;
e. a yes/no indication of whether the Participant or
Customer is a U.S. person, as defined in the CFTC's
July 26, 2013 Cross-Border Guidance, as may be amended
from time to time; and
f. if the Swap will be allocated: (i) an indication
that the Swap will be allocated; (ii) the LEI of the
agent; (iii) an indication of whether the Swap is a
post-allocation swap; and (iv) if the Swap is a post-
allocation swap, the unique swap identifier of the
original transaction between the reporting counterparty
and the agent.
C. In the event that an FCM Participant or Executing Participant or
Authorized User of an FCM Participant or Executing Participant receives
an Order from a Customer that cannot be immediately entered on the
Platform, the Executing Participant or Authorized User of the Executing
Participant must prepare a written Order ticket and include the account
designation, date, an electronic timestamp reflecting the time of
receipt and other information required pursuant to section (B) above.
The FCM Participant or Executing Participant must enter the Order on
the Platform when the Order becomes executable.
D. Audit Trail Requirements
1. Participants that provide connectivity to the Company are
responsible for maintaining, or causing to be maintained, an
Order routing or front-end audit trail for all electronic
Orders, including Order entry, modification, cancellation and
responses to such messages, entered on the Platform through any
gateway to the Platform. The audit trail must contain all Order
receipt, Order entry, Order modification, and response or
receipt times to the highest level of precision achievable by
the operating system, in accordance with CFTC requirements for
electronic Orders and no more than one second for non-
electronic Orders. The times captured must not be able to be
modified by the Person entering the Order.
2. Participants, including Authorized Users and any Person
having Trading Privileges, must maintain audit trail
information as required by the CEA and CFTC Regulations,
including, but not limited to, CFTC Regulations 1.31 and 1.35
if applicable, and must be able to produce this data in a
standard format upon request from the Regulatory Oversight
Committee, Compliance Department or other relevant department
of the Company.
3. FCM Participants must maintain a complete record of all of
Customer Orders to trade Company Contracts received by the FCM
Participant, and any other Transaction records, communications
or data received by the FCM Participant regarding its Customer
Accounts.
4. The audit trail must capture required fields, which
include but are not limited to the following: all fields
relating to Order entry, including the ID of a Company
Contract, quantity, Order type, buy/sell indicator, User ID(s),
Customer Type Indicator Code, timestamps, and, where
applicable, stop/trigger price, type of action and action
status code, and applicable information contained in paragraph
(B) of this Rule 5.2.
5. For Orders that are executed, the audit trail must record
the execution time of the Company Contract and all fill
information.
6. The Compliance Department staff shall require, at least on
an annual basis, its Participants to verify compliance with
these audit trail and record-keeping requirements. Participants
also may be subject to periodic audit trail spot checks,
depending upon any indicators that any Participant is failing
to adhere to Company Rules pertaining to audit trail
requirements, Participant obligations or any other failures to
provide information to the Company upon request. The findings
of such Company reviews will be documented and maintained as
part of the books and records of the Company. The reviews shall
include, but not be limited to, the following:
a. review of random samples of audit trail data;
b. review of the process by which identifications are
assigned to records and users and how the records are
maintained; and
c. review of account numbers and customer indicators
in trade records to test for accuracy and improper use.
E. CTI Codes. Each Participant must identify each Transaction on
the record of transactions submitted to the Company with the correct
CTI Code. The CTI Codes are as follows:
CTI 1: Electronic Trading and Privately Negotiated--Applies
to Transactions initiated and executed by a Participant for its
Proprietary Account, for an account controlled by a
Participant, or for an account in which the Participant has an
ownership or financial interest.
CTI 2: Electronic Trading and Privately Negotiated--Applies
to Transactions initiated and executed by a Participant trading
for a clearing member's house account.
CTI 3: Electronic Trading and Privately Negotiated--Applies
to Orders entered by a Participant or Authorized User for
another Participant or an account controlled by such other
Participant.
CTI 4: Electronic Trading and Privately Negotiated--Applies
to Transactions initiated and executed by a Participant trading
for any other type of Customer.
F. A Company Contract will not be void or voidable due to: (1) a
violation by the Company of the provisions of sections 5 or 5h of the
CEA or Parts 37 or 38 of CFTC Regulations; (2) any CFTC proceeding to
alter or supplement a rule, term or condition under section 8a(7) of
the CEA or to declare an emergency under section 8a(9) of the CEA; or
(3) any other proceeding the effect of which is to: (i) alter or
supplement a specific term or condition or trading rule or procedures,
or (ii) require the Company to adopt a specific term or condition,
trading rule or procedure, or to take or refrain from taking a specific
action.
Rule 5.3 Order Type
A. The following types of Orders may be entered on the Platform
with respect to any Company Contract.
1. Limit Order. An Order to buy or sell a Company Contract at
a specified price or better. A Limit Order must be entered on
the Platform with a defined limit price. A Limit Order will be
executed when it is entered, to the extent that there are
resting contra-Orders, with any balance of such Limit Order to
remain as a resting Order until such Limit Order is executed or
canceled. Unless canceled by the Participant or upon a market
close, an exchange restart, or other disruption to normal
operating conditions, all Limit Orders shall be normally
canceled by the Company 30 days after being placed.
2. Negotiated Trade Order. An Order to cross a pre-negotiated
trade available only for Permitted Transactions on the Company
SEF. A Negotiated Trade Order must be entered on the Platform
with the Order size, limit price, buy or sell indication, and
committed counterparty. The entire balance of the Negotiated
Trade Order shall be executed against the committed
counterparty's side of the Negotiated Trade Order via the trade
matching system. The agreed-upon terms of any Negotiated Trade
Order must be submitted to the Platform via the Company
Telecommunications Systems by one Participant within 5 minutes
of the conclusion of any pre-negotiation. The counterparty to
the transaction must then approve the terms via the Company
Telecommunication Systems before the Negotiated Trade Order is
executed via the trade matching system.
3. Quote. A Limit Order as defined in this Rule 5.3A that is
entered on the Platform by a Liquidity Provider.
4. Stop Limit Order. Once a stop price specified by the
Participant is met or exceeded, a Limit Order is submitted
automatically. The stop price is the price of an executed Limit
Order that will activate the subsequent automatic submission of
the Participant's Limit Order without further instruction. The
price for the Limit Order must be specified by the Participant
at the time the Stop Limit Order is submitted. Prior to the
triggering of the stop price, a Stop Limit Order will remain
open until being canceled by the Participant. Once the stop
price is triggered, the resulting Limit Order is treated as a
normal Limit Order.
B. The Company's central limit order book matches orders in an open
and competitive manner on the basis of a price and time priority
algorithm.
C. The Company does not accept indications of interest or
indicative quotes.
D. Other types of Orders as may be approved by the Company from
time to time as certified with the CFTC in accordance with Part 40 of
CFTC Regulations and disclosed in a Participant Notice and on the
Website.
Rule 5.4 Trading Contracts on Behalf of Customers
A. Individuals or entities that have not been approved and
authorized as Participants of the Company may trade Company Contracts
only as Customers of an FCM Participant, and all Customer Orders must
be transmitted to the Company by each Customer's FCM Participant. Each
FCM Participant shall maintain a secure connection to the Company and
comply with all technical and other requirements established by the
Company for this purpose.
B. Upon submission of a Customer Order, the Company will conduct a
review of the FCM Participant's applicable Customer Account to ensure
that the FCM Participant's Customer can fully collateralize the Order
prior to entering into any Transaction. If the FCM Participant's
Customer Account does not have the necessary funds for the Order, the
Company will not accept the Customer's Order.
Rule 5.5 Execution Methods
A. Swap Execution Facility:
1. The Company facilitates the execution of Orders through a
central limit order book on the Platform, as set forth in Rule
5.3.
2. Negotiated Trade Orders are facilitated and executed via
the Platform's trade matching system.
3. The Company SEF does not facilitate the execution of Block
Trades or EFPs.
B. Designated Contract Market:
1. The Company facilitates the execution of Orders in an open
and competitive manner through a central limit order book on
the Platform, as set forth in Rule 5.3.
2. The Company facilitates Block Trades and EFP transactions,
as set forth in Rule 5.7 and Rule 5.8, respectively.
3. The Company DCM does not facilitate the execution of
Negotiated Trade Orders.
C. A written record of all of the terms of each Transaction entered
into on the Company or pursuant to the Rules will be available
immediately upon execution through the Participant Portal. Such record
shall legally supersede any previous agreement and serve as a
confirmation of each such Transaction. The Company will send
confirmation messages to Participants upon execution of a Transaction
via the API and/or Portal, if such Participants are online at the time.
However, please note that if any applicable Participant is not online
at the time of execution, such Participant will see the confirmation(s)
when it next logs on to the Platform.
D. Except with respect to transfer trades, the product type, size,
execution time (or submission time in the case of Block Trades and
EFPs) and execution method for each Transaction will be made available
on the Platform to all Participants immediately after execution (or
immediately after submission to the Platform in the case of Block
Trades and EFPs) of the relevant Transaction.
Rule 5.6 Trading Hours
A. The Trading Hours of the Company are 24 hours a day, 7 days a
week, 365 days per year.\1\ The Trading Hours applicable to any given
type of Company Contract will be as specified in Chapter 12 of these
Rules with any modifications posted on the Website and sent by
Participant Notice.
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\1\ Or, 366 days per year for leap years.
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Rule 5.7 Block Trades
A. The Company may permit Block Trades in Company Contracts listed
by the Company DCM. The relevant Company Contract Specifications shall
specify whether a Company Contract is eligible to be traded as a Block
Trade.
B. Each Block Trade shall be effected away from the Platform but
otherwise pursuant to the Rules. The parties to a Block Trade must be
Eligible Contract Participants, and a Block Trade must be in a size
that is equal to or in excess of the applicable minimum block size for
such Company Contract as set forth in the Company Contract
Specifications. The Company shall, from time to time, review and (as
appropriate) revise its minimum block sizes.
C. An FCM Participant or an Executing Participant must receive
written instructions from a Customer or obtain the Customer's prior
written or recorded consent before entering into a Block Trade with
that Customer.
D. Except as may otherwise be permitted by Applicable Law,
Participants shall not aggregate Orders for different accounts to
achieve the minimum block size.
E. The price at which a Block Trade is executed must be fair and
reasonable in light of (1) the size of the Block Trade, (2) the prices
and sizes of other transactions in the same contract at the relevant
time, (3) the prices and sizes of transactions in other relevant
markets at the relevant time, and (4) the circumstances of the markets
or the parties to the Block Trade.
F. Block Trades between different accounts with common beneficial
ownership are prohibited unless (1) each party's decision to enter into
the block trade is made by an independent decision-maker and (2) each
party has a legal and independent bona fide business purpose for
engaging in the block trade.
G. The material terms of a Block Trade must be agreed to on the
Company Telecommunication Systems. Each Block Trade must be submitted
to the Company via the Company Telecommunication Systems by one
Participant within 5 minutes of the execution. The counterparty to the
transaction must then approve the terms of the Block Trade via the
Company Telecommunication Systems within 5 minutes of the execution.
The Company shall promptly publish such information to the market with
an indication that it was a Block Trade.
H. Participants involved in the execution of Block Trades must
maintain written or electronic records of all such Block Trades,
including an electronic timestamp reflecting the date and time any such
Order was received as well as an electronic timestamp reflecting the
date and time such Order was executed or canceled.
I. All Company Contracts effected as Block Trades shall be cleared
in the usual manner.
Rule 5.8 Exchange for Physical Transactions
A. The Company may permit EFP transactions involving Company
Contracts listed by the Company DCM. The relevant Company Contract
Specifications shall specify whether a Company Contract is eligible to
be traded as a component of an EFP transaction.
B. An EFP transaction shall consist of two discrete but related
simultaneous transactions in which one party must be the buyer of the
related position and seller of the corresponding Company Contract, and
the other party to the EFP transaction must be the seller of the
related position and the buyer of the corresponding Company Contract.
The related position must involve the commodity underlying the Company
Contract in a quantity that is approximately equivalent to the quantity
covered by the Company Contract.
C. Each EFP transaction requires a bona fide transfer of ownership
of the cash commodity between the parties. The facilitation of an EFP
transaction by any party that knows such EFP transaction is non bona
fide shall constitute a violation of this Rule.
D. The execution of an EFP transaction may not be contingent upon
the execution of another EFP or related position transaction between
the parties where the transactions result in the offset of the related
position without the incurrence of market risk that is material in the
context of the related position transactions.
E. The accounts involved in the execution of an EFP transaction
must be (1) independently controlled with different beneficial
ownership, (2) independently controlled accounts of separate legal
entities with the same beneficial ownership, or (3) independently
controlled accounts within the same legal entity, provided that the
account controllers operate in separate business units.
F. EFP transactions may be effected at such commercially reasonable
prices as are mutually agreed upon by the parties to the transaction.
EFP transactions may not be priced to facilitate the transfer of funds
between parties for any purpose other than as the consequence of
legitimate commercial activity.
G. The parties to an EFP transaction shall maintain all documents
relevant to the Company Contract and the related position including all
documents customarily generated in accordance with the relevant market
practices, including, as applicable, copies of the documents evidencing
title to, or the contract or contracts to buy or sell, the cash
commodity involved in such EFP transaction. Any such documents and
information shall be furnished to the Company upon request.
H. The material terms of an EFP transaction must be agreed to on
the Company Telecommunication Systems. Each EFP transaction must be
submitted to the Company via the Company Telecommunication Systems by
one Participant within 5 minutes of the execution. The counterparty to
the transaction must then approve the terms of the EFP transaction
within 5 minutes of the execution via the Company Telecommunication
Systems.
I. All Company Contracts effected as part of EFP transactions shall
be cleared in the usual manner.
Chapter 6 Clearing and Delivery
Rule 6.1 Clearance and Substitution
A. Upon submission of an Order, the Company will conduct a review
of the Participant's Collateral Account to ensure that the Participant
can fully collateralize the Order prior to entering into any
Transaction. If the Participant's Collateral Account does not have the
necessary funds and/or collateral for the Order, the Company will not
accept the Order.
B. Upon the successful matching of Orders, the Company's
Derivatives Clearing Organization shall immediately, through the
process of Novation, be substituted as and assume the position of
seller to the Participant buying and buyer to the Participant selling
the relevant Company Contract. Upon such substitution, the buying and
selling Participants shall be released from their Obligations to each
other, and such Participants shall be deemed to have bought the Company
Contract from or sold the Company Contract to the Company's DCO, as the
case may be, and the Company's DCO shall have all the rights and be
subject to all the liabilities of such Participants with respect to
such Transactions. Such substitution shall be effective in law for all
purposes. The Participants of the Company Contract are deemed to
consent to the Novation by entering the applicable Orders on the
Company Platform and the Company DCO consents to the Novation by
accepting the Orders on the Company Platform.
C. Company Contracts with the same terms and conditions, as defined
by the Company Contract Specifications, submitted to the Company's
Derivatives Clearing Organization for clearing, are economically
equivalent within the Company's Derivatives Clearing Organization and
may be offset with each other within the Company's Derivatives Clearing
Organization.
D. Upon acceptance of a Company Contract by the Company's
Derivatives Clearing Organization for clearing:
1. The original Company Contract is extinguished;
2. The original Company Contract is replaced by an equal and
opposite Company Contract between the Company's DCO and each
Participant; and
3. All terms of a cleared Company Contract must conform to
the Company Contract Specifications.
E. If a Company Contract is rejected for clearing by the Company's
Derivatives Clearing Organization for any reason, such Company Contract
is void ab initio.
Rule 6.2 Settlement of Company Contracts
A. The Company shall maintain, on its system, a record of each
Participant's account balances and Company Contracts.
B. On the Settlement Date, the Company will notify all Participants
of the final amount payable.
C. With respect to a Company Contract that is physically settled,
the Company shall record the following transfers in Participant
Accounts in the Company's books and records by no later than the next
Business Day after the Settlement Date (except as otherwise specified
in the Company Contract specifications); provided, however, that where
the same Participant has offsetting positions in the same Company
Contract with the same terms, the following operations shall be netted
for that Participant:
1. With respect to a futures contract: (i) to the extent a
buyer has not already prepaid the U.S. dollar (``USD'')
purchase price of the future in accordance with the Company
Contract specifications, the buyer of the future shall be
debited the total USD purchase price, and shall be credited
with the total Underlying due under the Company Contract; and
(ii) the seller of the future shall be debited the total
Underlying due under the Company Contract, and shall be
credited with the total USD purchase price.
2. With respect to a call option contract: (i) the call
option buyer shall be debited the total USD strike price, and
shall be credited with the total Underlying due under the
Company Contract; and (ii) the call option seller shall be
debited the total Underlying due under the Company Contract,
and shall be credited with the total USD strike price.
3. With respect to a put option contract: (i) the put option
buyer shall be debited the total Underlying set forth in the
Company Contract, and shall be credited with the total USD
strike price; and (ii) the put option seller shall be debited
the total USD strike price due under the Company Contract, and
shall be credited with the total Underlying set forth in the
Company Contract.
4. With respect to a swap contract that is not an option: (i)
to the extent a buyer has not already prepaid the USD purchase
price of the swap in accordance with the Company Contract
specifications, the buyer of the swap shall be debited the
total USD purchase price, and shall be credited with the total
Underlying due under the Company Contract; and (ii) the seller
of the swap shall be debited the total Underlying due under the
Company Contract, and shall be credited with the total USD
purchase price.
D. For an expired Company Contract that is an option, the Company
will transfer the Underlying to the Participant Account on the
Company's books and records of the Participant that initially posted
the Underlying in its capacity as the option call writer.
E. After the notice period on the last trading day of an expiring
Series of Company Contracts that are options, the Company will delete
all such Company Contracts that have not been exercised from each
Participant's Participant Account. A Company Contract that is an option
and that has not been exercised on or before the last trading day will
expire with no value in accordance with the Contract Specifications.
Company Contracts that are physically settled options shall not be
exercised by the Company for a Participant automatically.
Rule 6.3 Deposit Procedures
A. A Participant must submit a deposit notification through the
Participant Portal before the Participant may deposit funds or any
Underlying with the Company. A Participant must deposit funds or
Underlying on the same day as the Participant submits to the Company a
deposit notification to the Company.
B. Deposits occur, and funds and Underlying are available for use
with respect to Trading Privileges and Clearing Privileges, no later
than the next Settlement Bank Business Day after a Participant submits
a deposit notification and deposits funds or Underlying with the
Company in accordance with Rule 6.3A[.]
C. Participants are responsible for all transfers of funds from
their Company-approved accounts to the Collateral Account or transfers
of any Underlying to the Company for credit to the relevant Participant
Account.
D. In the event a Participant deposits funds or Underlying to the
Company without submitting a deposit notification, the Participant
agrees to: (1) cooperate with the Company to resolve any issues that
may arise; and (2) agree that the Company will send the funds or
Underlying back to the account or address from which it was transferred
within two (2) Settlement Bank Business Days if there has been no
resolution.
Rule 6.4 Withdrawal Procedures
A. Only an Authorized Representative may submit a withdrawal
notification through the Participant Portal before the Company
transfers funds or Underlying to a Participant or a Customer. Upon
receipt of a withdrawal notification, the Company no longer permits
funds or Underlying in the amount listed in the withdrawal notification
to be used for Trading Privileges and Clearing Privileges.
B. Participants are responsible for providing accurate account
numbers or wallet addresses, as the case may be, to allow the Company
to effect transfers to the Participants or Customers.
C. Withdrawals occur, and funds and Underlying are available, no
later than the next Settlement Bank Business Day after a Participant
has submitted a withdrawal notification if the Participant submits a
withdrawal notification during Trading Hours.
D. With respect to withdrawals of Digital Currency collateral, the
Company shall deliver to the Participant a cryptographically signed
Digital Currency transaction, which shall include the two signatures,
the LedgerX ``from'' address, the Participant ``to'' address and the
appropriate Digital Currency withdrawal amount.
E. If a Participant fails to adhere to the withdrawal procedures
set forth herein or in the Company Contract Specifications, as
applicable, the Company will take reasonable measures to effect the
withdrawal; however, if unable to effect the withdrawal, the
Participant's collateral may become the sole property of the Company,
to the extent permitted by Applicable Law. The Company may apply the
collateral (including any Underlying held in such Participant's
Participant Account) against the Participant's Obligations.
Rule 6.5 Deliveries
A Participant that is required to make or accept delivery under a
Company Contract (either for itself or on behalf of a Customer) agrees
that it is required to provide full collateralization prior to entering
any such Transaction or exercising any Company Contract so as to allow
the Company to complete all necessary delivery requirements as set
forth in the Rules. Deliveries will occur on the Company's books and
records unless otherwise specified in the Company Contract
Specifications. Any failure to deposit funds or collateral in
accordance with Rule 6.3 or withdraw funds or collateral in accordance
with Rule 6.4 may be deemed a default of an Obligation and an act
detrimental to the interest or welfare of the Company.
Rule 6.6 Reconciliation
The Company shall reconcile the positions and cash and collateral
balances of each Participant at the end of each Settlement Bank
Business Day. The Company shall make available to each Participant the
positions and cash and collateral balances of each such Participant and
any Customers of the Participant. All Participants shall be responsible
for reconciling their records of their positions and cash and
collateral balances with the records of positions and cash and
collateral balances that the Company makes available to Participants.
Rule 6.7 Swap Data Reporting
A. The Company shall report Regulatory Swap Data for Swaps to a
single Swap Data Repository for purposes of complying with the CEA and
applicable CFTC Regulations governing the regulatory reporting of
swaps. The Company shall report all data fields as required by Appendix
A to Part 43 of CFTC Regulations and Appendix 1 to Part 45 of CFTC
Regulations, as applicable, including, but not limited to, Swap
counterparties, Company Contract type, option method, option premium,
LEIs, User IDs, buyer, seller, USIs, unique product identifiers,
underlying asset description, the Swap price or yield, quantity,
maturity or expiration date, the size, settlement method, execution
timestamp, timestamp of submission to the SDR, the CTI Code,
Participant Accounts, and whether a Participant is a swap dealer, major
swap participant or a financial entity. The Company shall identify each
counterparty to any Transaction in all recordkeeping and all Regulatory
Swap Data reporting using a single LEI as prescribed under CFTC
Regulation 45.6. As soon as technologically practicable after
execution, the Company also shall transmit to both Swap counterparties
and the LedgerX DCO, the USI for the Swap created pursuant to CFTC
Regulation 45.5 and the identity of the SDR. For Swaps involving
allocation, the Company will transmit the USI to the Reporting
Counterparty and the agent as required by CFTC Regulation 45.5(d)(1).
B. The Company shall from time to time designate a Swap Data
Repository in respect of one or more Swaps and shall notify
Participants of such designation. Currently, the Company reports all
Regulatory Swap Data for all Swaps to ICE Trade Vault.
C. Participants that become aware of an error or omission in
Regulatory Swap Data for a Transaction shall promptly submit corrected
data to the Company. Participant shall not submit or agree to submit a
cancellation or correction in order to gain or extend a delay in public
dissemination of accurate Swap Transaction and Pricing Data or to
otherwise evade the reporting requirements of Part 43 of CFTC
Regulations. LedgerX will report any errors or omissions in Regulatory
Swap Data to the same SDR to which it originally submitted the Data, as
soon as technologically practicable after discovery of any such error
or omission.
D. The Company sends the Regulatory Swap Data as set forth in Rule
6.7A to the Swap Data Repository as soon as technologically practicable
after a trade has been executed on the Platform, or pursuant to the
Company Rules. Following the transmittal of the Data to the Swap Data
Repository, the Company will make available the Swap Transaction and
Pricing Data to all Participants accessing the Platform. However, due
to transmission and posting timing of the Swap Data Repository,
Participants should be aware that the Swap Transaction and Pricing Data
may be available on the Company Platform prior to being publicly
disseminated by the Swap Data Repository.
Chapter 7 Margin
Rule 7.1 Initial Margin, Variation Margin, and Maintenance Margin
Requirements
A. Each Participant shall deposit with, pay to, or maintain with
the Company unencumbered assets sufficient to satisfy the Initial
Margin, Variation Margin and option premiums for each Company Contract
in such amounts, in such forms, at such times and in accordance with
such systems as may be prescribed by or pursuant to these Rules or the
Company's policies in respect thereof.
B. Each transfer of funds or Digital Currency in respect of Initial
Margin or Variation Margin shall constitute a settlement (within the
meaning of CFTC Rule 39.14) and shall be final as of the time the
Company's accounts are debited or credited with the relevant payment.
C. Initial Margin
1. Initial Margin requirements shall be as determined by the
staff of the Company from time to time, in accordance with CFTC
Regulation 39.13(g) and the applicable margin policies of the
Company. The methodology used by the Company to calculate
Initial Margin shall incorporate at a minimum the following
factors, among others as determined by the Chief Risk Officer
(``CRO'') from time to time consistent with the guidance of the
Risk Management Committee and in consultation therewith as
appropriate:
a. An estimate of the potential risk exposure of the
Company to price movements in the Company Contract over
an estimated liquidation period which shall be no less
than 1-day liquidation for each futures position, or
such longer liquidation time as is appropriate based on
the specific characteristics of a particular Company
Contract or Participant's positions, and
b. One or more measures designed to limit pro-
cyclicality, including but not limited to 25% weighting
in the market risk portion of margin to stressed
observations. Further, the Company's pro-cyclicality
measures shall be designed to deliver forward looking,
stable and prudent margin requirements that limit pro-
cyclicality to the extent that the soundness and
financial security of the Company is not negatively
affected.
2. The Company shall determine the amount of Initial Margin
owing from a Participant at the time the Participant enters
into a Company Contract. To satisfy the Initial Margin
requirement on a Company Contract, Participant shall maintain
on deposit with the Company assets in the same currency in
which Participant's obligations under such Company Contract are
collateralized under its contract terms.
3. Notwithstanding alerts that may be available through the
Company website or APIs informing Participant of Initial Margin
requirements and changes thereto, the Company shall be under no
obligation to provide Participant with advanced notice, actual
or constructive, of any changes to Initial Margin requirements.
4. In compliance with CFTC Regulation 39.13(g)(8)(ii),
Participants shall at all times maintain on deposit with
Company unencumbered assets in each account of Participant
sufficient to satisfy 100 percent of the Initial Margin
requirements for Participant's Company account.
5. Should a Participant fail to maintain the minimum Initial
Margin in Participant's Company account at any time, the
Company reserves the right to liquidate some or all
Participant's positions as set forth in Rule 14.3, in whole or
in part, in any or all accounts of Participant at the Company's
sole and absolute discretion with no prior notice to such
Participant. No action or inaction by the Company shall
constitute a waiver of this right, which may be exercised by
the Company at any time in the Company's sole judgment and
discretion. The Participant also is not entitled to rely on the
Company to liquidate Participant's positions, and any
deficiency in Participant's accounts shall remain the sole
responsibility of Participant.
6. The Company may, in its sole and absolute discretion,
reduce the Initial Margin requirements for the related
positions of a Participant in accordance with CFTC Regulation
39.13(g)(4) if the price risks are significantly and reliably
correlated, and based on such other factors as determined by
the CRO, consistent with the guidance of the Risk Management
Committee and in consultation therewith as appropriate.
D. Maintenance Margin
1. Minimum Maintenance Margin requirements shall be posted
through the Company's web interface and shall change, at such
time and in such amount as is determined at the discretion of
the CRO, consistent with the guidance of the Risk Management
Committee and in consultation therewith as appropriate.
Participants shall receive no other notice of the minimum
Maintenance Margin requirements.
2. If at any time a Participant fails to satisfy the minimum
Maintenance Margin requirements, the Company reserves the right
to liquidate some or all of the Participant's positions as set
forth in Rule 14.3, in whole or in part, and in any or all
accounts of Participant, at the Company's sole and absolute
discretion with no other or prior notice to such Participant.
The Company shall not be required to limit the liquidation of
Participant's portfolio only to the point where it raises
Participant's net equity above the Maintenance Margin
threshold, and Company shall be entitled to liquidate
Participant's entire Portfolio at the Company's sole and
absolute discretion. No action or inaction by the Company shall
constitute a waiver of this right, which may be exercised by
the Company at any time in the Company's sole judgment and
discretion. The Participant also is not entitled to rely on the
Company to liquidate Participant's positions, and any
deficiency in Participant's accounts shall remain the sole
responsibility of Participant.
3. If at any time a Participant fails to satisfy the minimum
Maintenance Margin requirements, and the Company is unable to
liquidate immediately enough of Participant's positions through
the central limit order book for the net equity in
Participant's account to be higher than the minimum Maintenance
Margin requirements, then the Participant shall be in
``default'' within the meaning of CFTC Regulation 39.16. No
formal written determination need be made in connection
herewith.
4. If a Participant is in default as set forth above, the
Company reserves the right to take all actions specified in
CFTC Regulation 39.16(c) and Rule 14.1, including, without
limitation, the prompt transfer, liquidation, hedging,
auctioning, or allocation of some or all of the Participant's
positions, in whole or in part, away from the Company's central
limit order book. If the liquidation of any of Participant's
Company Contracts through the Company's central limit order
book is not accomplished immediately, is impractical in the
Company's judgment, or may be pro-cyclicality in the Company's
judgment, then the Company may utilize an alternative
liquidation mechanism, such as a transfer, allocation, or
auction, in the sole and absolute discretion of the CRO, with
none of those methods being required to proceed in any
particular order. To the extent a Participant's Company
Contracts are transferred or allocated, then the Company shall
estimate the residual value of a Participant's account, which
may be zero or in deficit.
5. No action or inaction by the Company shall constitute a
waiver of the Company's right to take the actions set forth in
this Section 7.1.D, which may be exercised by the Company at
any time after a Participant fails to satisfy the minimum
Margin Maintenance requirements, in the Company's sole judgment
and discretion. The Participant also shall not rely on the
Company to liquidate Participant's positions in any particular
time frame or manner, or at all, or to take the other actions
set forth in this Section 7.1.D to resolve Participant's
``default,'' and any deficiency in Participant's accounts shall
remain the sole responsibility of Participant.
E. Optional Request for Variation Margin
1. The Company is under no obligation to require Variation
Margin from any Participant, and may do so only as a courtesy
to Participants. Participants receive notice of the adequacy of
the margin on deposit with the Company through the posting of
Maintenance Margin requirements through the Company's web
interface. If the Company requests Variation Margin from any
Participant, that request shall in no way diminish or delay the
minimum Maintenance Margin requirements of the Company. The
failure of a Participant to satisfy any Maintenance Margin
requirement shall trigger the liquidation mechanisms described
in Rule 7.1.D and Rule 14.3, notwithstanding anything in this
Rule 7.1.E.
2. After a Participant has entered into a Company Contract
utilizing margin, the Company may require Participant to
deposit additional funds known as Variation Margin by such
time, and in such amount, as the Company shall specify,
notwithstanding Participant's previous deposit of funds
sufficient to satisfy the Company's Initial Margin for a
Company Contract or Participant account.
3. Variation Margin may be required from a Participant within
such time and in such amount as is determined at the sole and
absolute discretion of the Company, for already existing
positions, as determined by the CRO consistent with the
guidance of the Risk Management Committee and in consultation
therewith as appropriate. That Variation Margin may apply to
long positions, short positions, or both.
4. The CRO may determine that Variation Margin is required,
consistent with the guidance of the Risk Management Committee
and in consultation therewith as appropriate, if the CRO
determines (1) that unstable conditions relating to one or more
Company Contracts exist, or that the maintenance of an orderly
market or the preservation of the fiscal integrity of the
Company so requires, or (2) that any Participant is carrying
Company Contracts or incurring risks in its account(s) that are
larger than is accounted for by Participant's Initial Margin or
justified by the financial and/or operational condition of the
Participant. No formal written determination need be made in
connection herewith.
a. Variation Margin requirements on the bases
described in clause (1) above may be required of any or
all Participants.
b. Variation Margin requirements on the bases
specified in clause (2) above may be required of any
Participant with respect to which such determination is
made.
F. Intraday Profit and Loss Settlements
1. The Company shall mark-to-market all positions in the
Participant's Company accounts, and calculate the net profit or
loss in each Participant account as measured against the last
time the Participant's positions were marked-to-market. This
calculation shall be conducted intra-day, at a frequency
determined by the CRO.
2. A Participant's Company account shall be debited or
credited the net profit or loss described above intra-day, at a
frequency determined by the CRO in accordance with the
Company's policies and procedures in effect from time to time.
3. The net loss in each Participant's Company account shall
be due and payable or immediately in U.S. dollars on deposit
with the Company.
G. Asset Management; Withdrawal Limitations
1. The Company shall not be liable to Participant for any
interest income on assets deposited with the Company for
Initial Margin, Variation Margin, or otherwise.
2. The Company shall retain the amount of Initial Margin or
Variation Margin deposited with respect to any Company Contract
for which a delivery notice has been issued until such time as
provided for in the applicable Rules (or if not so provided,
until all delivery and payment obligations in respect of such
contract have been satisfied in full).
3. Excess Initial Margin or Variation Margin on deposit with
the Company shall not be released to Participant unless the
Participant has paid all margins, premiums and other amounts
due from Participant for all of Participant's accounts or
otherwise pursuant to these Rules. Notwithstanding any
provision to the contrary in these Rules, the Company may
refuse to release the amount of excess Initial Margin on
deposit in the Company account of a Participant which has
requested such release if the CRO concludes that the financial
or operational condition of the Participant is such that the
release of excess Initial Margin or Variation Margin would be
contrary to the fiscal integrity of the Company.
4. The CRO may, consistent with the guidance of the Risk
Management Committee and in consultation therewith as
appropriate, limit withdrawals of excess Initial Margin or
Variation Margin already on deposit for a specified time, when
the CRO concludes that it is required due to unstable
conditions relating to one or more Company Contracts, or for
the maintenance of an orderly market or the preservation of the
fiscal integrity of the Company, or where a Participant is
carrying a quantity of Company Contracts that is larger than is
justified by the financial and/or operational condition of the
Participant.
5. Without limitation of the Company's other rights to use or
apply a Participant's Initial Margin or Variation Margin as
permitted in these Rules, under applicable law or otherwise,
the Company (i) may invest Initial Margin or Variation Margin
in the form of cash in accordance with the Company's investment
policies and applicable law, and (ii) may use Participant's
assets constituting Initial Margin or Variation Margin in its
account from time to time to meet temporary liquidity needs of
the Company (whether or not such Participant is in default), in
a manner consistent with the Company's liquidity policies and
applicable law, including by way of assignment, transfer,
pledge, repledge or creation of a lien on or security interest
in such Initial Margin or Variation Margin in connection with
borrowing, repurchase transactions or other liquidity
arrangements to support payment obligations of the Company in
respect of Company Contracts. The Company will restore any such
Initial Margin or Variation Margin so used as soon as
practicable following the conclusion of the event requiring the
use of a Participant's Initial Margin or Variation Margin for
liquidity purposes. Prior to the occurrence of a default with
respect to a Participant, the Company may use, invest or apply
the Initial Margin or Variation Margin of such Participant only
as set forth in this Rule 7.1. This Rule 7.1 shall not be
deemed to limit the Company's rights to use or apply a
Participant's Initial Margin or Variation Margin as permitted
in the Rules, under applicable law or otherwise following the
occurrence of a default of that Participant, as determined by
the Company.
6. Subject to all other limitations set forth in this Rule
7.1, the Company shall return to a Participant, by such time as
may be specified by the Company, the amount of any excess
Initial Margin or Variation Margin on deposit from such
Participant, provided that the Company receives a request for
such a release from such Participant.
Rule 7.2 Collateral
A. Subject to the terms and conditions of Company-approved margin
collateral, the Company will accept from Participants the following as
margin collateral: (1) cash; (2) the Underlying; and (3) any other form
of collateral deemed acceptable by the Risk Management Committee upon
the Risk Management Committee's approval of such collateral as
communicated through Participant Notices and on the Website. The
Company will value margin collateral as it deems appropriate.
B. Except as otherwise provided herein, Collateral must be and
remain unencumbered. Each Participant posting collateral hereby grants
to the Company a continuing first priority security interest in, lien
on, right of setoff against and collateral assignment of all of such
Participant's right, title and interest in and to any property and
collateral deposited with the Company by the Participant, whether now
owned or existing or hereafter acquired or arising, including without
limitation the following: (i) such Participant's Participant Account
and all securities entitlements held therein and all funds held in a
Collateral Account; (ii) all Digital Currencies that, in each case, are
held in or otherwise credited to a virtual ``wallet'' or other account
maintained by the Company; (iii) such virtual ``wallet'' or other
account; and (iv) all proceeds of the foregoing. A Participant shall
execute any documents required by the Company to create, perfect and
enforce such lien.
C. Each Participant hereby agrees that with respect to any Digital
Currency and any other financial asset which is or may be credited to
the Participant's Participant Account, the Company shall have control
pursuant to Section 9-106(a) and 8-106(e) of the UCC and a perfected
security interest pursuant to Section 9-314(a) of the UCC.
D. A Participant must transfer the collateral to the Company or to
a Collateral Account and the Company will hold collateral transferred
to the Company on behalf of the Participant. The Company will credit to
the Participant the collateral that such Participant deposits.
Collateral shall be held by the Company until a Participant submits a
withdrawal notification unless otherwise stipulated by these Rules.
E. The Company will not be responsible for any diminution in value
of collateral that a Participant deposits with the Company. Any
fluctuation in markets is the risk of each Participant. Any interest
earned on Participant collateral may be retained by the Settlement Bank
or the Company.
F. The Company has the right to liquidate a Person's Company
Contracts or non-cash collateral to the extent necessary to close or
transfer Company Contracts, fulfill obligations to the Company or other
Participants, and/or to return collateral in the event that (1) the
Person ceases to be a Participant; (2) the Company suspends or
terminates the Person's Trading Privileges or Clearing Privileges; (3)
the Person's open position in any Company Contract becomes less than
fully collateralized; or (4) the Company determines in its sole
discretion that it is necessary to take such measures.
Rule 7.3 Segregation of Participant Funds
The Company shall separately account for and segregate from the
Company's proprietary funds all Participant funds used to purchase,
margin, guarantee, secure or settle Company Contracts, and all money
accruing to such Participant as the result of Company Contracts so
carried in a Collateral Account. The Company shall maintain a
proprietary account that will be credited with fees or other payments
owed to the Company that are debited from the Collateral Account as a
result of Participant trades and settlements of Company Contracts. The
Company shall maintain a record of each Participant's account balances
and Company Contracts. The Company shall not hold, use or dispose of
Participant funds except as belonging to Participants.
Rule 7.4 Concentration Limits
The Company may apply appropriate limitations or charges on the
concentration of assets posted as collateral, as necessary, in order to
ensure its ability to liquidate such assets quickly with minimal
adverse price effects, and may evaluate the appropriateness of any such
concentration limits or charges, on a periodic basis. In the event that
the Company determines in its sole discretion that the Participant's
deposit is in material excess of the amount necessary to collateralize
the Participant's Company Contracts, the Company shall have the right
to (1) transfer non-cash collateral, including Digital Currencies, back
to a Participant, and Participant agrees to accept such transfer, or
(2) take other action the Company deems to be necessary to safeguard
the collateral. The Company shall be entitled to charge fees related to
holding non-cash collateral in material excess of the amount necessary
to collateralize a Participant's Company Contracts.
Chapter 8 Business Conduct and Trading Practices
Rule 8.1 Scope
This Chapter 8 applies to all Transactions except as may be
provided herein. Participants and, where applicable, Authorized Users,
shall adhere to and comply fully with this Chapter 8.
Rule 8.2 Procedures
A. With respect to trading on the Platform, the Company may adopt
procedures relating to Transactions and trading on the Platform,
including, without limitation, procedures to:
1. determine the daily settlement price of a Company
Contract;
2. disseminate the prices of bids and offers on, and trades
in, Company Contracts;
3. record, and account for, Company Contracts and activity on
the Company;
4. perform market surveillance and regulation on matters
affecting Company Contracts and activity on the Company;
5. establish limits on the number and/or size of Orders that
may be submitted by a Participant on the Platform;
6. establish limits on the number of Company Contracts that
may be held by a Participant; and
7. establish a limit on the maximum daily price fluctuations
for any Company Contract and provide for any related
restriction or suspension of trading in the Company Contract.
B. The Company may, in its discretion and at any time, amend any
procedures adopted pursuant to Rule 8.2A, and will publish the
amendments in a Participant Notice and on the Website.
Rule 8.3 Prohibited Trading Activity; Prohibitions on Fictitious
Transactions, Fraudulent Activity and Manipulation
No Person shall engage in any of the following activities in
connection with or related to any Company activity:
A. any fraudulent act or scheme to defraud, deceive, trick or
mislead;
B. trading ahead of a Customer or front-running;
C. fraudulent trading;
D. trading against a Customer Order or entering into a cross-
trade, except as permitted by Rule 8.11;
E. accommodation trading;
F. fictitious Transactions;
G. pre-arranged or non-competitive Transactions (except for
Transactions specifically authorized under these Rules);
H. cornering, or attempted cornering, of any Company
Contract;
I. violations of bids or offers;
J. spoofing;
K. any manipulation proscribed under CEA Section 9(a)(2) or
CFTC Regulations 180.1(a) or 180.2, whether attempted or
completed;
L. demonstrating intentional or reckless disregard for the
orderly execution of Transactions during the closing period;
M. making fictitious or trifling bids or offers, offering to
enter into a Company Contract at a price variation less than
the minimum price fluctuation permitted for such Company
Contract under the Rules, or knowingly making any bid or offer
for the purpose of making a market price that does not reflect
the true state of the market; or
N. other conduct that constitutes a disruptive trading
practice or is otherwise prohibited under CEA Section 4c(a)(5)
or applicable CFTC Regulations.
Rule 8.4 Prohibition on Money Passing, Pre-Arranged, Pre-Negotiated
and Non-Competitive Trades
A. No Person may enter Orders for the purpose of entering into
Transactions without a net change in either party's open positions but
a resulting profit to one party and a loss to the other party, commonly
known as a ``money pass''.
B. No Person shall pre-arrange or pre-negotiate any purchase or
sale or non-competitively execute any Transaction, except to effect a
Negotiated Trade Order, a Block Trade or an EFP transaction. Pre-
execution communications related to the material terms of a Negotiated
Trade Order, a Block Trade or an EFP transaction must take place on the
Company Telecommunication Systems.
Rule 8.5 Acts Detrimental to the Welfare or Reputation of the Company
Prohibited
No Participant, Authorized Representative, Authorized User or ISV
shall engage in any Company activity that tends to impair the welfare,
reputation, integrity or good name of the Company.
Rule 8.6 Misuse of the Platform
Misuse of the Platform is strictly prohibited. It shall be deemed
an act detrimental to the Company to permit unauthorized use of the
Platform, to assist any Person in obtaining unauthorized access to the
Platform, to trade on the Platform without an agreement, to alter the
equipment associated with the Platform (except with the Company's
consent), to interfere with the operation of the Platform, to intercept
or interfere with information provided thereby, or in any way to use
the Platform in a manner contrary to these Rules.
Rule 8.7 Supervision; Information Sharing
A. A Participant shall be responsible for establishing, maintaining
and administering reasonable supervisory procedures to ensure that its
Authorized Users comply with these Rules and Applicable Law, and such
Participant may be held accountable for the actions of such Authorized
Users with respect to the Company.
B. Participants and Authorized Users shall cooperate fully with the
Company or a Regulatory Agency in any investigation, call for
information, inquiry, audit, examination or proceeding.
C. Participants and Authorized Users shall ensure that any
information disclosed to the Company is accurate, complete and
consistent. No existing or prospective Participant or Authorized User
shall make any false statements or misrepresentations in any
application, report or other communication to the Company.
Rule 8.8 Business Conduct
A. Conducting trading activities in an honorable and principled
manner consistent with these Rules is the essence of ethical conduct
with respect to the Company. Participants, Authorized Users and other
Persons subject to the Company's jurisdiction shall act with ethical
integrity with regard to their Company activity, and shall adhere to
the following ethical standards:
1. A Participant, Authorized User and any other Person
subject to the Company's jurisdiction shall abstain from
engaging in conduct that is a violation of these Rules or
Applicable Law, and will conduct its business in accordance
with Applicable Law, and in good faith, with a commitment to
honest dealing.
2. No Participant, Authorized User or other Person subject to
the Company's jurisdiction shall engage in any fraudulent act
or engage in any scheme to defraud, deceive, trick or mislead
in connection with or related to any Company activity.
3. No Participant, Authorized User or other Person subject to
the Company's jurisdiction shall knowingly enter, or cause to
be entered, bids or offers on the Platform other than in good
faith for the purpose of executing bona fide Transactions.
Rule 8.9 Trading Practices
A. No Participant, Authorized User or other Person subject to the
Company's jurisdiction shall knowingly effect or induce the purchase or
sale of any Company Contract for the purpose of creating or inducing a
false, misleading, or artificial appearance of activity in such Company
Contract, or for the purpose of unduly or improperly influencing the
market price of such Company Contract or for the purpose of making a
price which does not reflect the true state of the market in such
Company Contract. No such Participant, Authorized User or other Person
shall arrange and execute simultaneous offsetting buy and sell Orders
in a Company Contract with the intent to artificially affect reported
revenues, trading volumes or prices.
B. No Participant, Authorized User or other Person subject to the
Company's jurisdiction shall attempt to manipulate, or manipulate the
market, in any Company Contract or Underlying. No such Participant,
Authorized User or other Person shall directly or indirectly
participate in or have any interest in the profit of a manipulative
operation or knowingly manage or finance a manipulative operation. This
includes any pool, syndicate, or joint account, whether in corporate
form or otherwise, organized or used intentionally for the purposes of
unfairly influencing the market price of any Company Contract.
C. Orders entered on the Platform for the purpose of upsetting the
equilibrium of the market in any Company Contract or creating a
condition in which prices do not or will not reflect fair market values
are prohibited, and any Person who makes or assists in entering any
such Order with knowledge of the purpose thereof or who, with such
knowledge, in any way assists in carrying out any plan or scheme for
the entering of any such Order, will be deemed to have engaged in an
act detrimental to the Company.
D. No Participant, Authorized User or other Person subject to the
Company's jurisdiction shall engage in any trading, practice, or
conduct that constitutes a disruptive or a manipulative trading
practice, as defined by the CEA, CFTC Regulations or in any
interpretive guidance issued by the Commission.
E. No Participant, Authorized User or other Person subject to the
Company's jurisdiction shall make any knowing misstatement of a
material fact to the Company, any Company Official, or any Board
committee.
F. No Participant, Authorized User or other Person subject to the
Company's jurisdiction shall knowingly disseminate false or misleading
reports regarding Transactions, the Company or one or more markets in
any Company Contract.
G. Abusive trading practices are prohibited on the Platform. No
Participant, Authorized User or other Person subject to the Company's
jurisdiction shall place or accept buy and sell Orders in the same
product and expiration month, and for options, the same strike, when
they know or reasonably should know that the purpose of the Orders is
to avoid taking a bona fide market position exposed to market risk
(transactions commonly known or referred to as ``wash sales''). Buy and
sell Orders that are entered with the intent to negate market risk or
price competition shall be deemed to violate the prohibition on wash
sales. Additionally, no Participant, Authorized User or other Person
subject to the Company's jurisdiction shall knowingly execute or
accommodate the execution of such Orders by direct or indirect means.
H. No Participant, Authorized User or other Person subject to the
Company's jurisdiction shall disclose an Order to buy or sell, except
to a Company Representative or official of the CFTC or as necessary to
efficiently execute the Order, nor shall any such Participant,
Authorized User or other Person solicit or induce another Person to
disclose Order information. No Participant, Authorized User or other
Person shall take action or direct another to take action based on non-
public Order information, however acquired, except as permitted by Rule
8.4B. The mere statement of opinions or indications of the price at
which a market may open or resume trading does not constitute a
violation of this Rule.
Rule 8.10 Customer Order Priority
A. No Participant, Authorized User or other Person subject to the
Company's jurisdiction shall knowingly enter an Order on the Platform
for its own account, an account in which it has a direct or indirect
financial interest, or an account over which it has discretionary
trading authority (a ``Discretionary Order''), including, without
limitation, an Order allowing discretion as to time and price, when
such Person is in possession of a Customer Order that can be but has
not been entered on the Platform.
B. For purposes of this Rule 8.10, a Person shall not be deemed to
knowingly buy or sell a Company Contract or execute a Discretionary
Order if:
1. such Person is a corporate or other legal entity
consisting of more than one individual trader;
2. such Person has in place appropriate ``firewall'' or
separation of function policies and procedures; and
3. the Person or Authorized User buying or selling the
Company Contract or executing the Discretionary Order in
question has no direct knowledge of the Order to buy or sell
the same Company Contract for any other Person at the same
price or at the market price or of the Customer Order for the
same Company Contract, as the case may be.
C. Nothing in this Rule 8.10 limits the ability of an ``eligible
account manager'' to bunch Orders in accordance with CFTC Regulation
1.35(b)(5).
Rule 8.11 Trading Against Customer Orders
A. No Person in possession of a Customer Order shall knowingly
take, directly or indirectly, the opposite side of such Order for its
own account, an account in which it has a direct or indirect financial
interest, or an account over which it has discretionary trading
authority.
B. The foregoing restriction does not prohibit permissible pre-
execution discussions conducted in accordance with Rule 8.4.
Rule 8.12 Prohibition on Withholding of Customer Orders
No Executing Participant or FCM Participant shall withhold or
withdraw from the market any Customer Order, or any part of an Order,
for the benefit of any Person other than the Customer.
Rule 8.13 Execution Priority
A. Executable Customer Orders must be entered on the Platform
immediately upon receipt. An FCM Participant or Executing Participant
that receives a Customer Order that is not immediately entered on the
Platform must create a non-erasable record of the Order, including the
Order instructions, account designation, date, time of receipt and any
other information that may be required by the Company.
B. Customer Orders received by an FCM Participant or Executing
Participant shall be entered on the Platform in the sequence received.
Customer Orders that cannot be immediately entered on the Platform must
be entered when the Orders become executable in the sequence in which
the Orders were received.
C. Non-discretionary Customer Orders received by an FMC Participant
or Executing Participant shall be entered on the Platform in the
sequence in which they were received. Non-discretionary Customer Orders
that cannot be immediately entered on the Platform must be entered when
the Orders become executable in the sequence in which the Orders were
received.
Rule 8.14 Crossing Orders
Independently initiated Orders on opposite sides of the market for
different beneficial account owners that are immediately executable
against each other may be entered without delay. Orders must not
involve pre-execution communications, except as permitted by Rule 8.4B.
Rule 8.15 Position Limits
A. To reduce the potential threat of market manipulation or
congestion, LedgerX shall adopt for each of its Company Contracts, as
is necessary and appropriate, position limitations or position
accountability levels for speculators. The Company may establish
position limits for one or more Company Contracts at a level not higher
than any limit set by the CFTC for any Company Contract. The position
limit levels shall be set forth in a Position Limit and Position
Accountability Level Table as may be amended from time to time by the
Company in a Participant Notice and on the Website. The Company may
grant exemptions from position limits in accordance with CFTC
Regulations.
B. A Participant seeking an exemption from position limits,
including position limits established pursuant to a previously approved
exemption, must file the required application with the Company in the
form and manner as the Company may require from time to time and
receive approval before exceeding such position limits. Notwithstanding
the foregoing, a Participant who establishes an exemption-eligible
position in excess of position limits and files the required
application with the Company shall not be in violation of this Rule,
provided the filing occurs within one Settlement Bank Business Day
after assuming the position. In the event that the positions in excess
of the position limits are not deemed to be exemption-eligible, the
applicant and the Executing Participant, if any, will be in violation
of speculative position limits for the period of time in which the
excess positions remained open.
C. A Participant who owns or controls aggregate positions in a
Company Contract in excess of the reportable levels set forth in the
Position Limit and Position Accountability Level Table or where such
Person otherwise holds substantial positions in Company Contracts
shall:
1. keep records, including records of such Participant's
activity in the Underlying and related derivative markets, and
make such records available, upon request, to the Company;
2. provide to the Company, in a timely manner upon request by
the Company and in a form and manner acceptable to the Company,
information relating to the positions owned or controlled by
such Participant, including but not limited to the nature and
size of the position, the trading strategy employed with
respect to the position, and hedging information, if
applicable;
3. be deemed to have consented, when so ordered by the
Company, in its sole discretion, not to further increase the
positions, to comply with any prospective limit which exceeds
the size of the position owned or controlled, or to liquidate
any open position which exceeds position limits; and
4. liquidate Company Contracts, if applicable, in an orderly
manner.
D. This Rule 8.15 shall not limit the jurisdiction of the Company
to take action that it determines necessary or appropriate in respect
of any positions on the Company, including but not limited to the
Company taking steps to liquidate such Company Contracts on behalf and
at the expense of such Participant to the extent necessary to eliminate
such excess.
Rule 8.16 Position Accountability Levels
A. The Company shall establish position accountability levels for
Company Contracts not subject to position limits pursuant to Rule 8.15.
The position accountability levels shall be set forth in a Position
Limit and Position Accountability Level Table as may be amended from
time to time by the Company in a Participant Notice and on the Website.
B. A Participant that owns or controls aggregate positions in a
Company Contract in excess of the reportable levels set forth in the
Position Limit and Position Accountability Level Table or where such
Participant otherwise holds substantial positions in Company Contracts
shall:
1. keep records, including records of such Person's activity
in the Underlying and related derivative markets, and make such
records available, upon request, to the Company;
2. provide to the Company, in a timely manner upon request by
the Company and in a form and manner acceptable to the Company,
information relating to the positions owned or controlled by
such Person, including but not limited to the nature and size
of the position, the trading strategy employed with respect to
the position, and hedging information, if applicable;
3. be deemed to have consented, when so ordered by the
Company, in its sole discretion, not to further increase the
positions, to comply with any prospective limit which exceeds
the size of the position owned or controlled, or to liquidate
any open position which exceeds position accountability levels;
and
4. liquidate Company Contracts, if applicable, in an orderly
manner.
C. This Rule shall not limit the jurisdiction of the Company to
take action that it determines necessary or appropriate in respect of
any positions on the Company, including but not limited to the Company
taking steps to liquidate such Company Contracts on behalf and at the
expense of such Participant to the extent necessary to eliminate such
excess.
Rule 8.17 Aggregation of Positions
A. For purposes of Rule 8.15 and Rule 8.16, all positions in
Company Contracts must be aggregated as required by CFTC Regulations.
Aggregation of positions shall apply to:
1. All positions in accounts for which a Person by power of
attorney or otherwise directly or indirectly owns the positions
or controls the trading of the positions. Position limits shall
apply to positions held by two or more Persons acting pursuant
to an expressed or implied agreement or understanding, in the
same as if the positions were held by, or the trading of the
positions was done by, a single Person.
2. Any Person holding positions in more than one account, or
holding accounts or positions in which the Person by power of
attorney or otherwise directly or indirectly has a ten percent
or greater ownership or equity interest, must aggregate all
such accounts or positions unless such Person is exempted from
aggregating such positions by CFTC Regulations.
B. Any Participant seeking an exemption from aggregation of
positions must (1) satisfy the exemptive requirements in CFTC
Regulations; and (2) apply for a Company-approved exemption in the form
and manner as may be prescribed by the Company from time to time.
Rule 8.18 Large Trader Reporting
A. Each Participant shall submit to the Company (i) a daily report
of all positions that exceed the reportable position levels set forth
on the Website and (ii) a copy of the CFTC Form 102 (Identification of
Special Accounts, Volume Threshold Accounts and Consolidated Accounts
and which shall include a Series S filing made pursuant to CFTC
Regulation 20.5) filed by the Participant or Executing Participant with
the CFTC for such Participant's or Executing Participant's Customers'
reportable accounts. The Form 102 shall be submitted to the Company no
later than the Settlement Bank Business Day following the date on which
the account becomes reportable.
B. Positions in Company Contracts at or above the reportable level
set forth on the Website trigger reportable status. For a Participant
in reportable status, all positions, regardless of size, in relevant
Company Contracts must be reported to the Company, in addition to any
regulatory obligations a Participant may have separate and apart from
these Rules.
C. All large trader reports shall be submitted in the form and
manner specified by the Company. The Company may require that more than
one large trader report be submitted daily. The Regulatory Oversight
Committee may require certain Participants to provide reports on a
lesser number of positions than otherwise required by the Company.
Rule 8.19 Compliance
Each Participant shall have a compliance program commensurate with
the size and scope of its trading activities on the Company and
designed to ensure appropriate, timely and ongoing review of trading
practices and compliance with the Rules. Each Participant shall act in
accordance with these practices for compliance and monitoring with
regard to its Company activity:
A. Provide for proper training of personnel on the provisions
of the Rules;
B. Maintain internal policies and procedures to promote
compliance with the Rules;
C. Promptly disclose to the Company the details of any
violations of the Rules involving a Participant's activities on
the Company, including its own activities or those of another
Participant, and a Participant shall promptly disclose to the
Company the details of any disciplinary sanctions, fines or
other related determinations made by a Regulatory Agency or
another market on which such Participant trades, or provision
of market information to the Company or any of its Affiliates;
D. Provide an environment that encourages employees to engage
in safe and confidential discussions and to disclose to senior
management any trading practices that might violate the Rules;
E. Require any consultant, contractor and subcontractor to
disclose all financial affiliations and conflicts of interest.
Ensure that consultants, contractors or subcontractors do not
cause any disclosure of information in violation of the Rules,
including this code of conduct, and that confidentiality
agreements are in effect where appropriate; and
F. Establish clear lines of accountability for trading
practices, including provisions relating to the
responsibilities of corporate officers, with appropriate
oversight by the board of directors or other senior corporate
management committee.
Chapter 9 Discipline and Enforcement
Rule 9.1 General
A. Market Monitoring
1. The Company shall record and store a record of all data
entered into the Platform, including the Participant's and
Authorized User's identity, information on Transactions and any
other information required and in accordance with the Company's
policies.
2. The Company shall conduct market surveillance and trade
practice surveillance by monitoring and reviewing data entered
into the Platform using programs designed to alert the Company
of potentially unusual or violative trading activity.
3. The Company, through the Compliance Department, shall
initiate a review of unusual or violative trading activity and,
where appropriate, investigate such activity. The Compliance
Department will also conduct investigations when Compliance
Department staff at any time has reason to believe that
inappropriate activity of any sort is taking place on the
Company, Platform or Website.
B. All Persons within the Company's jurisdiction are subject to
this Chapter 9 if they are alleged to have violated, to have aided and
abetted a violation, to be violating, or to be about to violate, any
Rule or any provision of Applicable Law for which the Company possesses
disciplinary jurisdiction.
C. Compliance Department
1. The Company has a Compliance Department consisting of one
or more compliance staff. The Chief Compliance Officer is
responsible for overseeing the Compliance Department and shall
report to the Regulatory Oversight Committee and the CEO.
2. The Compliance Department shall investigate unusual
trading activity or other activity that the Compliance
Department has reasonable cause to believe could constitute a
violation of these Rules, and shall enforce the Rules and
prosecute possible Rule violations within the Company's
disciplinary jurisdiction.
3. The Compliance Department shall conduct at least annual
reviews of all Participants to verify compliance with Company
Rules. The Compliance Department may conduct periodic reviews
of all persons and firms subject to the Company's Rules to
verify compliance with the Company Rules. Such reviews may
include, but are not limited to, reviews of randomly selected
samples of audit trail data, reviews of the process by which
User ID records are maintained, reviews of usage patterns
associated with User IDs, and reviews of account numbers and
Customer Type Indicator codes.
D. The Company, through the Compliance Department, Disciplinary
Panel and Appeals Committee, shall conduct inquiries, investigations,
disciplinary proceedings and appeals from disciplinary proceedings,
summary impositions of fines, summary suspensions or other summary
actions in accordance with this Chapter 9. Any Person subject to the
Company's jurisdiction under Rule 3.1 is subject to the Company's
disciplinary authority set forth in this Chapter 9.
E. The Company, through the Compliance Department, will commence an
investigation upon (i) the discovery or receipt of information that
indicates a reasonable basis for finding that a violation may have
occurred or will occur, or (ii) the receipt of a request from
Commission staff.
F. No Company Official shall interfere with or attempt to influence
the process or resolution of any Disciplinary Action, except to the
extent provided under these Rules with respect to a proceeding in which
a Person is a member of the relevant Disciplinary Panel or Appeals
Committee.
G. Representation by Counsel
1. A Respondent, upon being served with a Notice of Charges,
has the right to retain and be represented by legal counsel or
any other representation of its choosing, except any Director
or a member of the Disciplinary Panel or person substantially
related to the underlying investigations, such as material
witnesses or respondents during such proceedings.
2. In the event of any appeal that requires the Company to
retain legal counsel, the Respondent shall be responsible for
the reasonable attorney's fees incurred by the Company if the
Respondent does not prevail in the dispute.
H. The Company may hold a Participant liable for, and impose
sanctions against such Participant, for such Participant's own acts and
omissions that constitute a violation as well as for the acts and
omissions of each Authorized User, Authorized Representative or other
Person using a User ID of such Participant, or other agent or
representative of such Participant (other than an Executing Participant
acting as agent for such Participant), in each case, that constitute a
violation as if such violation were that of the Participant.
I. Ex Parte Communications
1. A Respondent (and any counsel or representative of such
Respondent) and the Compliance Department (and any counsel or
representative of the Compliance Department) shall not
knowingly make or cause to be made an ex parte communication
relevant to the merits of a disciplinary proceeding or an
appeal from a disciplinary proceeding to any member of the
Disciplinary Panel or the Appeals Committee that hears such
proceeding.
2. Members of a Disciplinary Panel or Appeals Committee shall
not knowingly make or cause to be made an ex parte
communication relevant to the merits of a disciplinary
proceeding or an appeal from a disciplinary proceeding to any
Respondent (and any counsel or representative of such
Respondent) or the Compliance Department (and any counsel or
representative of the Compliance Department).
3. Any Person who receives, makes or learns of any
communication that is prohibited by this Rule 9.1I shall
promptly give notice of such communication and any response
thereto to the Compliance Department and all parties to the
proceeding to which the communication relates.
4. A Person shall not be deemed to have violated this Rule
9.1I if the Person refuses an attempted communication
concerning the merits of a proceeding as soon as it becomes
apparent that the communication concerns the merits.
Rule 9.2 Investigations
A. The Compliance Department will endeavor to complete any
investigation within 12 months of the time unusual trading activity or
a potential Rule violation is suspected, unless there exists
significant reason to extend the investigation beyond such period. Upon
the conclusion of any investigation, the Compliance Department shall
draft a report detailing the facts that led to the opening of the
investigation, the facts that were found during the investigation, and
the Compliance Department's analysis and conclusion. Such internal
report shall be maintained in accordance with Rule 2.14.
B. The Compliance Department has the authority to:
1. initiate and conduct inquiries and investigations;
2. examine books and records of any Person subject to the
Company's jurisdiction under Rule 3.1;
3. prepare investigative reports and make recommendations
concerning initiating disciplinary proceedings;
4. issue a Notice of Charges to a Respondent;
5. prosecute alleged violations within the Company's
disciplinary jurisdiction; and
6. represent the Company on appeal from any disciplinary
proceeding, summary imposition of fines, summary suspension or
other summary action.
C. Each Person subject to the jurisdiction of the Company:
1. is obligated to appear and testify and respond in writing
to interrogatories within the time period required by the
Compliance Department in connection with:
a. any Rule;
b. any inquiry or investigation; or
c. any preparation by and presentation during a
Disciplinary Action;
2. is obligated to produce books, records, papers, documents
or other tangible evidence in its possession, custody or
control within the time period required by the Compliance
Department in connection with:
a. any Rule;
b. any inquiry or investigation; or
c. any preparation by and presentation during a
Disciplinary Action; and
3. may not impede or delay any Disciplinary Action.
Rule 9.3 Disciplinary Panel
A. The Respondent disputes the Compliance Department's findings
with respect to a Disciplinary Action, the Company shall convene the
Disciplinary Panel to adjudicate the findings by the Compliance
Department that are under dispute. The Chief Compliance Officer or an
individual designated by the Chief Compliance Officer may be appointed
to argue the matter on behalf of the Company.
1. Members of the Disciplinary Panel shall be individuals
that do not have a direct interest (financial, personal or
otherwise) in the matter, but in no event may be members of the
Compliance Department or any Persons involved in adjudicating
any other stage of the same proceeding.
2. In the event that members of the Disciplinary Panel do not
satisfy the requirements of this Rule 9.3A.2, then the
Regulatory Oversight Committee may substitute a new member for
the Disciplinary Panel or act as the Disciplinary Panel, to the
extent that the substituted member or the Regulatory Oversight
Committee, as the case may be, does not have a direct interest
(financial, personal or otherwise) in the matter.
B. Members of the Disciplinary Panel and the Compliance Department
may not communicate regarding the merits of a matter brought before the
Disciplinary Panel without informing the Respondent who is the subject
of the communication of the substance of such communication and
allowing the Respondent an opportunity to respond. The Compliance
Department may compel testimony, subpoena documents, and require
statements under oath from any Respondent or, to the extent the
Respondent is a Participant, any of its Authorized Users, Authorized
Representatives or other employees or agents.
C. The Compliance Department and other Company Representatives
working under the supervision of the Compliance Department may not
operate under the direction or control of any Participant, Authorized
User, Authorized Representative or any other representative of a
Participant, or trade, directly or indirectly, in any commodity
interest traded on or subject to the rules of any Designated Contract
Market or Swap Execution Facility.
Rule 9.4 Notice of Charges
A. The Compliance Department shall issue a Notice of Charges to a
Respondent by electronic mail and the U.S. Postal Service to that
Respondent's last known address if the Compliance Department determines
that there is reasonable cause to believe that a Respondent has
violated these Rules or Applicable Law. The Notice of Charges shall
include:
1. the reason the investigation was initiated;
2. the Rule or Rules alleged to have been violated;
3. the Respondent's response, if any, or a summary of the
response;
4. a summary of the investigation conducted;
5. findings of fact and the Compliance Department's
conclusions as to each charge, including which of these Rules
the Respondent violated, if any;
6. a summary of the Respondent's, and any relevant Authorized
User's or Authorized Representative's, disciplinary history, if
any;
7. the penalty, if any, proposed by the Compliance
Department; and
8. the Respondent's right to a hearing.
B. If the Compliance Department institutes an investigation of any
Affiliate of the Company, the Chief Compliance Officer shall notify the
Commission's Division of Market Oversight, or its successor division,
of that fact. At the conclusion of any such investigation, the Chief
Compliance Officer shall provide the Commission's Division of Market
Oversight, or its successor division, with a copy of the report or
other documentation specified in Rule 9.2.
Rule 9.5 Contesting and Appeals
A. The Respondent subject to the investigation may contest the
Notice of Charges by submitting an answer to the Notice of Charges by
electronic mail to the Compliance Department within 15 days of receipt
of the Notice of Charges. The Respondent's answer must contain a
detailed response to the findings and conclusions as to each charge and
any other information the Respondent believes is relevant.
B. The Respondent has a right to examine all relevant books,
documents, or other evidence in the possession or under the control of
the Compliance Department, except that the Compliance Department may
withhold from inspection any documents that:
1. are privileged or that constitute attorney work product;
2. were prepared by any Company Representative but which will
not be offered in evidence in the disciplinary proceedings;
3. may disclose a technique or guideline used in
examinations, investigations, or enforcement proceedings; or
4. disclose the identity of a confidential source.
C. If the Respondent fails to answer a Notice of Charges, then such
failure shall be deemed an admission to the findings in the Notice of
Charges, and the Compliance Department's findings and conclusions shall
become final and the Compliance Department shall impose the penalty (if
any) that it proposes. The Compliance Department shall notify the
Respondent of the imposition of any penalty and send a copy of the
Notice of Charges by electronic mail and the U.S. Postal Service to
that Respondent's last known address.
D. If the findings of the Compliance Department are contested, the
Compliance Department's report and the Respondent's response will be
submitted to a Disciplinary Panel.
E. The Disciplinary Panel will conduct a fair hearing with the
Compliance Department or other Company Representative and the
Respondent within 15 calendar days of receipt of the Participant's
answer to the Notice of Charges contesting such Notice of Charges.
Parties may attend telephonically. The formal rules of evidence shall
not apply, but the hearing procedures must not deny a fair hearing.
1. The hearing shall be recorded, and all information
submitted by the parties and the recording of the hearing shall
be preserved by the Compliance Department, along with the
Disciplinary Panel's findings, as the record of the proceedings
(the ``hearing record'') in accordance with Rule 2.14.
2. The hearing record shall be transcribed if requested by
the Commission or Respondent, if the decision is appealed
pursuant to these Rules, or if the Commission reviews the
decision pursuant to Section 8c of the CEA or Part 9 of CFTC
Regulations.
F. Prior to the Disciplinary Panel's hearing, the parties may (but
need not) submit proposed findings, briefs, and exhibits (including
affidavits), and during the hearing the parties may present witnesses.
The Respondent is entitled to cross-examine witnesses. Persons within
the Company's jurisdiction who are called as witnesses must participate
in the hearing and produce evidence. The Compliance Department shall
use reasonable efforts to secure the presence of all other witnesses
whose testimony would be relevant.
G. Within 15 days after the Disciplinary Panel's hearing, the
Disciplinary Panel shall issue a decision, which shall be delivered to
the Respondent by electronic mail and the U.S. Postal Service to the
Respondent's last known address. The findings of the Disciplinary Panel
shall contain the following information:
1. the Notice of Charges or a summary thereof, and any answer
to the charges or a summary thereof;
2. a summary of the evidence received;
3. findings and conclusions with respect to each charge, and
a complete explanation of the evidence and other basis for such
findings and conclusions;
4. an indication of each specific rule that the Respondent
was found to have violated;
5. a declaration of any penalty to be imposed on the
Respondent as the result of the findings and conclusions,
including the basis for such penalty;
6. the effective date and duration of that penalty; and
7. a statement that the Respondent has the right to appeal
any adverse decision by the Disciplinary Panel to the Appeals
Committee within 15 calendar days of receipt of the
Disciplinary Panel's decision.
H. The Disciplinary Panel's decision shall be final on the date it
is signed by the members of the Disciplinary Panel, the finality of
which shall be effective on the day after the last day of the appeal
period.
I. Either the Participant or the Compliance Department or the
Company Representative may appeal the decision of the Disciplinary
Panel within 15 calendar days by filing an appeal by electronic mail
with the Appeals Committee and forwarding a copy to the other parties
to the appeal. The Appeals Committee may review a decision on its own
initiative. Any penalties shall be stayed pending appeal unless the
Regulatory Oversight Committee determines that a stay pending appeal
would likely be detrimental to the Company, other Participants, or the
public. The Appeals Committee shall review the hearing record and any
information submitted by the Compliance Department or the Company
Representative and the Respondent on appeal and issue a decision, which
shall be final on the date of such issuance. The Respondent shall be
notified of the Appeals Committee's decision by electronic mail and by
the U.S. Postal Service to the Respondent's last known address. The
hearing record, any information submitted on appeal, and the Appeals
Committee's decision shall be preserved as the record on appeal in
accordance with Rule 2.14. The decision shall contain the information
listed in Rule 9.5 except for 9.5(G)(7), and will also contain:
1. a statement that any Person aggrieved by the action may
have a right to appeal the action pursuant to Part 9 of the
Commission's Regulations, within 30 calendar days of service;
and
2. a statement that any Person aggrieved by the action may
petition the Commission for a stay pursuant to Part 9 of the
Commission's Regulations, within 10 calendar days of service.
Rule 9.6 Settlements
A. The Company may enter into settlements with any Respondent any
time following the issuance of a Notice of Charges and prior to any
final decision by the Appeals Committee. The Respondent may initiate a
settlement offer. Any settlement offer shall be forwarded to the
Disciplinary Panel with a recommendation by the Compliance Department
that the proposed settlement be accepted, rejected, or modified. A
settlement offer may be withdrawn at any time before it is accepted by
the Disciplinary Panel.
B. The Disciplinary Panel may accept or reject a proposed
settlement, and the decision of the Disciplinary Panel shall be final.
In addition, the Disciplinary Panel may propose a modification to the
proposed settlement for consideration by the Respondent and the
Compliance Department.
C. Any settlement under this Rule shall be in writing and shall
state:
1. the Notice of Charges or a summary thereof;
2. the Respondent's answer, if any, or a summary thereof;
3. a summary of the investigation conducted;
4. findings and conclusions as to each charge, including each
act the Respondent was found to have committed or omitted, be
committing or omitting, or be about to commit or omit, and each
of these Rules or Applicable Law that such act or practice
violated, is violating, or is about to violate;
5. any penalty imposed and the penalty's effective date; and
6. where customer harm is found to exist, full customer
restitution where it can be reasonably determined.
D. Failed settlement negotiations, or withdrawn settlement offers,
will not prejudice a Respondent or otherwise affect subsequent
procedures in the Rule enforcement process.
Rule 9.7 Notice of Decision
A. The Compliance Department shall provide to the Respondent notice
of the Disciplinary Action, decision of the Disciplinary Panel or
Appeals Committee, or settlement in which sanctions are imposed, no
later than two Settlement Bank Business Days after it becomes final.
B. The Compliance Department shall provide to the NFA for inclusion
in its Internet-accessible database of disciplinary matters within two
Settlement Bank Business Days after a decision becomes final, notice of
any decision providing that a Respondent is suspended, expelled,
disciplined or denied access to the Company.
C. The Compliance Department shall make public notice of the
Disciplinary Action when the Disciplinary Action becomes final by
posting on its Website the information required by CFTC Regulation
9.11, for a period of 5 consecutive Settlement Bank Business Days in
accordance with CFTC Regulation 9.13.
Rule 9.8 Penalties
As a result of a Disciplinary Action or as part of a settlement,
the Compliance Department may impose one or more of the following
penalties, commensurate with the violation committed, in consideration
with the Respondent's disciplinary history, and including full customer
restitution where customer harm is found and where such restitution can
be reasonably determined:
A. a letter of warning, censure, or reprimand (although no
more than one such letter may be issued to the same Person
found to have committed the same Rule violation within a
rolling 12 month period);
B. a fine or penalty for each Rule or Applicable Law
violation sufficient to deter recidivism plus the monetary
value of any benefit received as a result of the violation or
the cost of damages to the unoffending counterparty;
C. suspension of Participant or Authorized User status or
privileges for a specified period, including partial suspension
of such privileges (for example, suspension of Trading
Privileges or Clearing Privileges in particular types of
Company Contracts or of placement of certain types of orders);
D. a prohibition against FCM Participants and/or Executing
Participants from entering Transactions on behalf of a Customer
who has violated these Rules, the CEA or CFTC Regulation or
other Applicable Law; and
E. revocation of Participant or Authorized User status or
privileges, including partial revocation of such privileges
(for example, revocation of Trading Privileges or Clearing
Privileges in particular types of Company Contracts or of
placement of certain types of orders).
Rule 9.9 Summary Suspension
A. The Compliance Department may summarily suspend or restrict a
Participant's or an Authorized User's privileges if the Chief
Compliance Officer believes suspension or restriction is necessary to
protect the swaps, commodity futures or options markets, the Company,
the public, or other Participants.
B. All access denials, suspensions, expulsions and other
restrictions imposed upon a Participant or Authorized User by the
Compliance Department pursuant to these Rules shall restrict with equal
force and effect, access to, and use of, the Company.
C. The Compliance Department may deny or terminate the status of a
Participant, including an FCM Participant, Executing Participant or
Liquidity Provider, and any Authorized User if (i) such Person is
unable to demonstrate its ability to satisfy the applicable criteria
set forth in Chapter 3 of these Rules; (ii) such Person is unable to
demonstrate its compliance with all other applicable Rules; (iii) such
Person's inability to demonstrate compliance with such criteria or
Rules would, in the Company's sole discretion, bring the Company into
disrepute or cause the Company to fail to be in compliance with the CEA
or CFTC Regulations or other laws and regulations; (iv) such Person or
any of its Authorized Users, as applicable, has committed a violation
of the Rules; or (v) other good cause is shown as the Company may
reasonably determine in its discretion.
D. Upon any suspension or revocation of an FCM Participant, any
open Order on the Platform for such FCM Participant's Customer(s) shall
be canceled by the Company.
E. Whenever practicable the Compliance Department shall notify the
Participant or Authorized User whose privileges are to be summarily
suspended by electronic mail before the action is taken. If prior
notice is not practicable, the Participant or Authorized User shall be
served with notice by electronic mail at the earliest opportunity. This
notice shall:
1. state the action taken or to be taken;
2. briefly state the reasons for the action;
3. state the time and date when the action became or becomes
effective and its duration; and
4. state that any Person aggrieved by the action may petition
the Commission for a stay of the effective date of the action
pending a hearing pursuant to Part 9 of CFTC Regulations,
within 10 calendar days of service.
F. The Participant or Authorized User whose privileges are to be
summarily suspended shall be given an opportunity for appeal under the
procedures outlined inRule 9.5I. The decision affirming, modifying, or
reversing the summary suspension shall be furnished by electronic mail
to the suspended Participant or Authorized User, and to the Commission
no later than one Settlement Bank Business Day after it is issued. The
decision shall contain:
1. a description of the action taken and the reasons for the
action;
2. a brief summary of the evidence received during the appeal
process;
3. findings and conclusions;
4. a determination as to whether the summary action that was
taken should be affirmed, modified, or reversed;
5. a declaration of any action to be taken against the
suspended Participant or Authorized User as the result of that
determination;
6. the effective date and duration of that action;
7. a determination of the appropriate relief based on the
findings and conclusions;
8. a statement that any Person aggrieved by the action may
have a right to appeal the action pursuant to Part 9 of the
Commission's Regulations, within 30 calendar days of service;
and
9. a statement that any Person aggrieved by the action may
petition the Commission for a stay pursuant to Part 9 of the
Commission's Regulations, within 10 calendar days of service.
Rule 9.10 Reporting Violations to the Commission
A. Whenever the Company suspends, expels, fines or otherwise
disciplines or denies any Person access to the Platform, the Company
will make the disclosures required by Commission Regulations. Without
limiting the generality of the foregoing, upon rendering a final
decision regarding a disciplinary or access denial action, the Company
shall provide notice to the Commission by filing with NFA's BASIC.
B. The Company will submit to the Commission a schedule listing all
those Company Rule violations which constitute disciplinary offenses as
defined in paragraph (a)(6)(i) of CFTC Regulation 1.63 and, to the
extent necessary to reflect revisions, will submit an amended schedule
within thirty days of the end of each calendar year. The Company will
maintain the schedule required by this section, and post the schedule
on the Company's website.
C. The Company will submit to the Commission within thirty days of
the end of each calendar year a certified list of any Participants or
Persons who have been removed from any Disciplinary Panel, the Board or
any Company committee pursuant to these Rule or Applicable Law during
the prior year.
D. Whenever the Company finds by final decision that a Participant
or Person has violated a Rule or otherwise committed a disciplinary
offense and such finding makes such person ineligible to serve on the
Company's Disciplinary Panels, Company committees, or the Board, the
Company shall inform the Commission of such finding and the length of
the ineligibility in a notice it is required to provide to the
Commission pursuant to either CEA Section 17(h)(1) or CFTC Regulation
9.11.
Chapter 10 Arbitration
Rule 10.1 In General
A. If so elected by a Customer, any Claim by the Customer against a
Participant (including any related counterclaims) shall be settled by
arbitration in accordance with this Chapter 10.
B. Any Claim by a Participant against another Participant
(including any related counterclaims) shall be settled by arbitration
in accordance with this Chapter 10. Arbitration proceedings invoked
pursuant to this paragraph shall be independent of, and shall not
interfere with or delay the resolution of Customers' Claims submitted
for arbitration pursuant to paragraph A.
C. Notwithstanding paragraph B, the arbitration panel, in its sole
and absolute discretion, may decline to take jurisdiction of, or,
having taken jurisdiction may at any time decline to proceed further
with, any Claim or any other dispute, controversy or counterclaim,
other than such as may be asserted under paragraph A.
D. A Claim brought pursuant to this Rule 10.1 shall be adjudicated
by qualified arbitrators appointed in accordance with Rule 10.5 below.
E. Persons to a dispute resolved in accordance with this Chapter 10
shall have the right to retain and be represented by legal counsel or
any other representation of its choosing, except any Director or a
member of the Disciplinary Panel or person substantially related to the
underlying investigations, such as material witnesses or respondents
during such proceedings. Persons to a dispute resolved in accordance
with this Chapter 10 shall be responsible for their own costs, expenses
and attorneys' fees incurred in connection with the dispute.
Notwithstanding the foregoing, the Person that prevails shall be
entitled to recover from the other party all costs, expenses and
reasonable attorneys' fees incurred in any arbitration arising out of
or relating to this Chapter 10, and in any legal action or
administrative proceeding to enforce any arbitration award or relief.
F. Any award or relief granted by the arbitrators hereunder shall
be final and binding on the parties hereto and may be enforced by any
court of competent jurisdiction.
G. Notwithstanding the foregoing, this Chapter 10 does not apply to
disputes between Participants where:
1. such Persons are required by the rules of a non-Company
Self-Regulatory Organization to submit to the dispute
resolution procedures of that Self-Regulatory Organization; or
2. such Persons have, by valid and binding agreement,
committed to arbitrate or litigate in a forum other than the
Company.
H. For purposes of this Chapter 10, the term ``Claim'' means any
dispute which arises out of any Transaction, which dispute does not
require for adjudication the presence of essential witnesses or third
parties over whom the Company does not have jurisdiction or who are
otherwise not available. The term ``Claim'' does not include disputes
arising from underlying commodity transactions which are not a part of,
or directly connected with, any Transaction.
Rule 10.2 Fair and Equitable Arbitration Procedures
A. A Person desiring to initiate an arbitration as provided in Rule
10.1 shall file a notice of arbitration (a ``Notice'') within two years
from the time the Claim arose. The Notice must set forth the name and
address of the party or parties against whom the Claim is being
asserted, the nature and substance of the Claim, the relief requested
and the factual and legal bases alleged to underlie such relief.
B. The Notice shall be accompanied by a non-refundable check
payable to the Company in payment of the arbitration fee. The amount of
the fee shall be (i) $500 for a Claim requesting relief totaling less
than $25,000 in the aggregate or (ii) $1,000 for a Claim requesting
relief totaling $25,000 or more in the aggregate.
C. Upon receipt, the Company shall promptly convene an arbitration
panel in accordance with Rule 10.5. The Company shall deliver a copy of
the Notice to each other party and to the arbitration panel.
D. Within 20 days following the delivery of the Notice, each
respondent shall file a written response (a ``Response'') with the
Company, with a copy to the claimant, setting forth its or his position
and any counterclaims, as applicable. If the Response sets forth one or
more counterclaims, the claimant shall file within 20 days a written
reply to such counterclaims with the Company, with a copy to the
claimant.
E. Once each party has had an opportunity to respond to the Claim
and all counterclaims, the arbitration panel shall promptly schedule a
hearing. Notwithstanding, Claims requesting relief totaling less than
$5,000 in the aggregate may, in the interests of efficiency and
economy, be resolved without hearing.
F. The chairman of the arbitration panel shall preside over the
hearing and shall make such determinations on the relevancy and
procedure as will promote a fair and expeditious adjudication.
G. The arbitration panel shall consider all relevant, probative
testimony and documents submitted by the parties. The arbitration panel
shall not be bound by the formal rules of evidence.
H. The final decision of the panel shall be by majority vote of the
arbitrators, as applicable.
I. Within 60 days after the termination of the hearing, the
arbitration panel shall render its final decision in writing and
deliver a copy thereof either in person or by first-class mail to each
of the parties. The arbitration panel may grant any remedy or relief
which it deems just and equitable, including, without limitation, the
awarding of interest and the arbitration fee.
J. The final decision of the arbitration panel shall not be subject
to appeal within the Company.
K. No verbatim record shall be made of the proceedings, unless
requested by a party who shall bear the cost of such record.
Rule 10.3 Withdrawal of Arbitration Claim
Any Notice may be withdrawn at any time before the Response is
filed in accordance with this Chapter 10. If a Response has been filed,
any withdrawal shall require consent of the party against which the
Claim is asserted.
Rule 10.4 Penalties
A. Any failure on the part of a Person to arbitrate a dispute
subject to this Chapter 10, or the commencement by any such Person of a
suit in any court prior to arbitrating a case that is required to be
arbitrated pursuant to this Chapter 10, violates these Rules and shall
subject such Person to disciplinary proceedings pursuant to Chapter 9.
Any Person that does not arbitrate a dispute pursuant to Rule 10.1G
shall not be deemed to have violated these Rules.
B. The Chief Compliance Officer, in consultation with the
Regulatory Oversight Committee, may summarily suspend, pursuant to Rule
9.9, a Participant that fails to timely satisfy an arbitration award
rendered in any arbitration pursuant to this Chapter 10.
Rule 10.5 Arbitration Panel
A. On an as-needed basis, the Company shall convene an arbitration
panel to adjudicate an arbitration claim under this Chapter 10. For a
Claim requesting relief totaling less than $25,000 in the aggregate,
the arbitration panel shall consist of one individual. For a Claim
requesting relief totaling $25,000 or more in the aggregate, the
arbitration panel shall consist of three individuals.
B. Members of the arbitration panel shall be individuals that do
not have a direct interest (financial, personal or otherwise) in the
matter.
C. Any member of the arbitration panel may disqualify himself for
any reason he deems appropriate.
D. Each member of the arbitration panel shall conduct himself in a
manner consistent with the American Bar Association/American
Arbitration Association's ``Code of Ethics for Arbitrators in
Commercial Disputes,'' which the Company hereby adopts as its own code
of ethics for arbitrators.
E. Each member of the arbitration panel must have no less than 5
years' experience in the financial services industry, and no less than
one arbitrator must have no less than 5 years' experience in the
commodity futures or swap industry.
F. In the event that members of the arbitration panel do not
satisfy the requirements of this Rule 10.5, then the Regulatory
Oversight Committee may substitute a new member for the arbitration
panel or act as the arbitration panel, to the extent that the
substituted member or the Regulatory Oversight Committee, as the case
may be, does not have a direct interest (financial, personal or
otherwise) in the matter.
Chapter 11 Miscellaneous
Rule 11.1 Adjustments Necessitated by Material Changes in the
Underlying
In the event that, prior to or during the term of a Series, changes
beyond the control of the Company occur in the availability of the
Underlying or in the way the Underlying is calculated, or a value for
the Underlying is unavailable or undefined in light of intervening
events, the Company may delay listing Series or adjust the terms of
outstanding Series as it deems appropriate in its discretion to achieve
fairness to holders of Company Contracts of the affected Series.
Rule 11.2 Prohibition on Trading by Company Personnel; Misuse of
Material, Non-Public Information
A. Terms used in this Rule 11.2 and not otherwise defined in these
Rules shall have the meanings set forth in CFTC Regulations 1.3 and
1.59.
B. Company Personnel may not trade, directly or indirectly any
Company Contract or any related financial instrument.
C. Company Representatives may not trade, directly or indirectly
any Company Contract or financial instrument where such Company
Representative has access to material, non-public information
concerning such Company Contract or financial instrument.
D. The Chief Compliance Officer (or, in the case of the Chief
Compliance Officer, the Board) may grant exemptions in accordance with
the provisions of this Rule 11.2 to Company Personnel on a case-by-case
basis under circumstances where the Company Personnel is participating
in pooled investment vehicles and the Company Personnel has no direct
or indirect control over Transactions effected by or for the account of
the pool.
E. For the avoidance of doubt, participation by Company Personnel
in a retirement plan sponsored by the Company shall not be deemed to
constitute trading directly or indirectly in a Company Contract or
financial instrument, notwithstanding such plan's trading of Company
Contracts or financial instruments.
F. Any exempt Company Personnel that has received an exemption
under Rule 11.2D must:
1. furnish to the Company (or, in the case of the Chief
Compliance Officer, to the Board) account statements and other
documents relevant to the trading activities that are so
exempted; and
2. inform the Chief Compliance Officer (or, in the case of
the Chief Compliance Officer, the Board) within one Settlement
Bank Business Day of any material change of information that
may affect such Company Personnel's qualification for such
exemption.
G. Company Representatives are prohibited from disclosing material,
non-public information obtained as a result of their employment, agency
relationship or engagement with the Company for any purpose
inconsistent with such Person's duties or responsibilities as an
employee, agent, independent contractor, Director or Committee member.
Rule 11.3 Property Rights
A. Each Participant on behalf of itself and each of its Affiliates,
Authorized Users and other Persons affiliated with any of the
foregoing, hereby acknowledges and agrees that LedgerX LLC owns and
shall retain all right, title and interest in and to the Company, all
components thereof, including, without limitation, all related
applications, all application programming interfaces, user interface
designs, software and source code and any and all intellectual property
rights therein, including, without limitation, all registered or
unregistered, as applicable, (a) copyright, (b) trademark, (c) service
mark, (d) trade secret, (e) trade name, (f) data or database rights,
(g) design rights, (h) moral rights, (i) inventions, whether or not
capable of protection by patent or registration, (j) rights in
commercial information or technical information, including know-how,
research and development data and manufacturing methods, (k) patent,
and (l) other intellectual property and ownership rights, including
applications for the grant of any of the same, in or to LedgerX LLC and
all other related proprietary rights of LedgerX LLC and/or any of its
Affiliates (together, with any and all enhancements, corrections, bug
fixes, updates and other modifications to any of the foregoing and any
and all data or information of any kind, other than Proprietary Data
and Personal Information, transmitted by means of any of the foregoing,
including, without limitation, market data, the ``Proprietary
Information''). Each Participant on behalf of itself and each of its
Affiliates, Authorized Users and other Persons affiliated with any of
the foregoing, further acknowledges and agrees that the Proprietary
Information is the exclusive, valuable and confidential property of
LedgerX LLC. Each Participant acknowledges and agrees that it shall not
and shall not permit its Affiliates, Authorized Users and other Persons
affiliated with any of the foregoing to reverse engineer, copy, bug
fix, correct, update, transfer, reproduce, republish, broadcast, create
derivative works based on or otherwise modify, in any manner, all or
any part of the Company or the Proprietary Information. Each
Participant further agrees to and to cause each of its Affiliates,
Authorized Users and other Persons affiliated with any of the foregoing
to keep the Proprietary Information confidential and not to transfer,
rent, lease, copy, loan, sell or distribute, directly or indirectly,
all or any portion of the Company or any Proprietary Information.
B. Subject to the provisions of this Rule 11.3, each Participant on
behalf of itself and each of its Affiliates, Authorized Users, and
other Persons affiliated with any of the foregoing hereby acknowledges
and agrees that LedgerX LLC is the owner of all rights, title and
interest in and to all intellectual property and other proprietary
rights (including all copyright, patent, trademark or trade secret
rights) in market data, and all derivative works based thereon, and
further agree not to distribute, create derivative works based on, or
otherwise use or commercially exploit market data and any such
derivative works, provided that Participants, Affiliates, Authorized
Users, and such other Persons may use market data for their own
internal business purposes. Without limiting the generality of the
foregoing, Participants, Affiliates, Authorized Users, and other
Persons affiliated with any of the foregoing may not distribute, sell
or retransmit market data exchange to any third party.
C. Notwithstanding any other provision of this Rule 11.3, each
Participant and Authorized User retains such rights as it may enjoy
under applicable law with respect to market data solely in the form
such market data was submitted to the Company by such Participant or
Authorized User.
D. Transaction Data shall not be disclosed publicly other than on
an aggregated or anonymous basis, or in a manner that does not directly
or indirectly identify any market participant who has submitted such
data.
E. LedgerX LLC shall not condition access to the Company upon a
Participant's consent to the use of Proprietary Data and Personal
Information for business or marketing purposes. Proprietary Data and
Personal Information may not be used by the Company for business and
marketing purposes unless the market participant has clearly consented
to the use of Proprietary Data and Personal Information in such manner.
LedgerX LLC, where necessary, for regulatory purposes, may share
Proprietary Data and Personal Information with one or more Designated
Contract Markets or Swap Execution Facilities. Nothing in this Rule
shall preclude LedgerX LLC from disclosing Proprietary Data and
Personal Information: (1) as required by Applicable Law or legal
process; (2) as the Company may deem necessary or appropriate in
connection with any litigation affecting the Company; (3) to any
Company Representative authorized to receive such information within
the scope of his or her duties; (4) to a third party performing
regulatory or operational services for the Company, provided that such
party has executed a confidentiality and non-disclosure agreement in a
form approved by the Company; (5) to a duly authorized representative
of the CFTC lawfully requesting Proprietary Data and Personal
Information; (6) in a manner in which a market participant consents to
such disclosure; (7) pursuant to the terms of an information-sharing
agreement; or (8) as permitted by CFTC Regulations.
Rule 11.4 Signatures
Rather than rely on an original signature, the Company may elect to
rely on a signature that is transmitted, recorded or stored by any
electronic, optical, or similar means (including but not limited to
telecopy, imaging, photocopying, electronic mail, electronic data
interchange, telegram, or telex) as if it were (and the signature shall
be considered and have the same effect as) a valid and binding
original.
Rule 11.5 Governing Law
The Rules, and the rights and Obligations of the Company and
Participants under the Rules, shall be governed by, and construed in
accordance with, the laws of the State of New York without regard to
any provisions of New York law that would apply the substantive law of
a different jurisdiction. The State of New York is the ``securities
intermediary's jurisdiction'' within the meaning of Section 8-110(e) of
the UCC for all purposes of the UCC.
Rule 11.6 Legal Proceedings
A. Any action, suit or proceeding against the Company, its
Officers, Directors, limited liability company members, employees,
agents, or any member of any committee must be brought within one year
from the time that a cause of action has accrued. Any such action, suit
or proceeding shall be brought in the state or Federal courts located
within the City of New York, New York. Each Participant and Authorized
User expressly consents to the jurisdiction of any such court, waives
any objection to venue therein, and waives any right it may have to a
trial by jury.
B. In the event that a Participant or Authorized User or an
Affiliate of such Person who fails to prevail in a lawsuit or other
legal proceeding instituted by such Participant or such Affiliate
against (i) the Company or (ii) any Affiliate of the Company or any of
its respective officers, directors, equity holders, employees, agents,
or any member of any committee, and related to the business of the
Company, such Participant or Authorized User shall pay to the Company
all reasonable costs and expenses, including attorneys' fees, incurred
by the Company in the defense of such proceeding. This Rule 11.7 shall
not apply to Company disciplinary actions, appeals thereof, or an
instance in which the Board has granted a waiver of the provisions
hereof.
C. The Company will provide to the Commission copies of documents
pertaining to Company-related pending legal proceedings as required
under CFTC Regulation 1.60.
Rule 11.7 Limitation of Liability; No Warranties
A. Except as otherwise set forth in the rules, or due to company
obligations arising from the act or CFTC regulations, including parts
37, 38 and 39 of the CFTC regulations, or otherwise under applicable
law, neither the company nor any of its company representatives,
affiliates or affiliates' representatives shall be liable to any
person, or any partner, director, officer, agent, employee, authorized
user or authorized representative thereof, for any loss, damage,
injury, delay, cost, expense, or other liability or claim, whether in
contract, tort or restitution, or under any other cause of action,
suffered by or made against them as a result of their use of some or
all of the platform and by making use of the platform, such persons
expressly agree to accept all liability arising from their use of same.
B. Except as otherwise set forth in these rules or due to company
obligations arising from the act or CFTC regulations, including parts
37, 38 and 39 of the CFTC regulations, or otherwise under applicable
law, neither the company nor any of its company representatives,
affiliates or affiliates' representatives shall be liable to any
person, or any partner, director, officer, agent, employee, authorized
user or authorized representative thereof, for any loss, damage,
injury, delay, cost, expense, or other liability or claim, whether in
contract, tort or restitution, or under any other cause of action,
suffered by or made against them, arising from (a) any failure or non-
availability of the platform; (b) any act or omission on the part of
the company, company representatives, affiliates or affiliates'
representatives including without limitation a decision of the company
to suspend, halt, or terminate trading or to void, nullify or cancel
orders or trades in whole or in part; (c) any errors or inaccuracies in
information provided by the company, affiliates or the platform; (d)
unauthorized access to or unauthorized use of the platform by any
person; (e) any force majeure event, including, but not limited to, the
unavailability of the blockchain as reasonably determined by the
company, affecting the company or a company contract; or (f) any loss
to any participant resulting from a participant's own security or the
integrity of a participant's technology or technology systems. This
limitation of liability will apply regardless of whether or not the
company, any company representatives, any company affiliates or
affiliates' representatives (or any designee thereof) was advised of or
otherwise might have anticipated the possibility of such damages.
C. A person's use of the platform, company property and any other
information and materials provided by the company is at the person's
own risk, and the platform, the company property and any other
information and materials provided by the company hereunder are
provided on an ``as is'' and ``as available'' basis, without warranties
or representations of any kind, express or implied, by statute, common
law or otherwise, including all implied warranties of merchantability,
fitness for a particular purpose and non-infringement, and any
warranties arising from a course of dealing, usage or trade practice.
The company does not guarantee that (a) the company property or the
platform will operate in an error-free, secure or uninterrupted manner;
(b) any information or materials provided by the company or accessible
through the company property or the platform will be accurate,
complete, reliable, or timely; or (c) the company property or any
aspects of the platform will be free from viruses or other harmful
components. The company shall have no liability for the
creditworthiness of any person or for the acts or omissions of any
person utilizing the platform or any aspect of the company or platform.
A person accessing the company is solely responsible for the security
and integrity of the person's technology. A person's access to the
company may be internet-based and the company has no control over the
internet or a person's connections thereto. Any person accessing the
company acknowledges that the internet, computer networks, and
communications links and devices necessary to enable a person to access
and use the platform are inherently insecure and vulnerable to attempts
at unauthorized entry and that no form of protection can ensure that a
participant's data, hardware, or software or the platform or other
company property will be fully secure. Furthermore, the company shall
have no obligation to monitor or verify any information displayed
through the platform.
D. A participant that deposits collateral for its benefit with the
company pursuant to these rules shall hold the company harmless from
all liability, losses and damages which may result from or arise with
respect to the care and sale of such collateral provided that the
company has acted reasonably and in accordance with applicable law
under the circumstances. Furthermore, the company has no responsibility
for any act or omission of any third party service provider that the
company has chosen with reasonable care. The company has no
responsibility or liability for any loss of collateral that results,
directly or indirectly, from a breach to a participant's security or
electronic systems, including but not limited to cyber attacks, or from
a participant's negligence with respect to a wallet, address or the
receipt of collateral upon the request of a withdrawal, or from a
participant's deposit, mistake, error, negligence, or misconduct with
respect to any collateral transfers a participant makes or attempts to
make to the company.
E. No participant, authorized user, authorized representative or
any other person shall be entitled to commence or carry on any
proceeding against the company, any of its company representatives,
affiliates or affiliates' representatives, in respect of any act,
omission, penalty or remedy imposed pursuant to the rules of the
company. This section shall not restrict the right of such persons to
apply for a review of a direction, order or decision of the company by
a competent regulatory authority.
F. notwithstanding anything to the contrary herein, in no event
shall the company or any of its company representatives, affiliates or
affiliates' representatives be liable for any indirect, incidental,
consequential, punitive or special damages (whether or not the company
or any such person had been informed or notified or was aware of the
possibility of such damages).
G. Any claim for redress or damages hereunder shall be filed in a
court of competent jurisdiction within one year of the date on which
such claim allegedly arose. Failure to institute litigation within such
time period shall be deemed to be a waiver of such claim and the claim
shall be of no further force or effect. The allocations of liability in
this Rule 11.7 represent the agreed and bargained for understanding of
the parties, and each party acknowledges that the other party's rights
and obligations hereunder reflect such allocations. The parties agree
that they will not allege that this remedy fails its essential purpose.
H. The limitations on liability in this Rule 11.7 shall not protect
any party for which there has been a final determination (including
exhaustion of any appeals) by a court or arbitrator to have engaged in
willful or wanton misconduct or fraud. Additionally, the foregoing
limitations on liability of this rule shall be subject to the CEA and
the regulations promulgated thereunder, each as in effect from time to
time.
Rule 11.8 Error Trade Policy
The Company shall have the discretion to delete Orders, adjust
prices, cancel trades or suspend the market in the interest of
maintaining a fair and orderly market, in accordance with this Rule
11.8.
A. In normal circumstances, the Company will only adjust
prices or cancel trades on the basis that the price traded is
not representative of market value. The Company will make the
final decision on whether a trade price is adjusted, or a trade
is canceled or is allowed to stand. In determining whether a
trade has taken place at an unrepresentative price, certain
factors will be taken into account. They may include, but not
be limited to:
1. price movements in other expiration months of the
same Company Contract;
2. current market conditions, including levels of
activity and volatility;
3. time period between different quotes and between
quoted and traded prices;
4. information regarding price movement in related
contracts, the release of economic data or other
relevant news just before or during electronic Trading
Hours, as applicable;
5. manifest error;
6. whether there is any indication that the trade in
question triggered stops or resulted in the execution
of spread trades;
7. whether another market user or client relied on
the price;
8. whether a transaction cancellation or price
adjustment will adversely impact market integrity,
facilitate market manipulation or other illegitimate
activity, or otherwise violate applicable rules or
regulations;
9. whether any Participants to the trade in question
request that any action be taken; and
10. any other factor which the Company, in its sole
discretion, may deem relevant.
B. The Company, when applicable, may establish price and/or
volume reasonability levels (``Reasonability Levels'') within
the system for each Company Contract. The Company may also
establish alert levels (``Alert Levels'') as applicable, beyond
which the Company will send an alert (``Alert'') to the
relevant Participants via the Participant Portal or API. These
Reasonability Levels and Alert Levels necessarily are flexible
to take account of prevailing market conditions. The Company
incorporates Reasonability Levels in determining Alert Levels
for issuing Alerts for items such as ``fat finger'' type
errors. Reasonability Levels and Alert Levels are set by the
Company and may be varied from time to time according to market
conditions. The Company will notify Participants of any
modifications to the Reasonability Levels. Upon receipt of any
Alert, Participant can choose whether or not to proceed with
entry and execution of the applicable Order. If the applicable
Participants approve the volume and/or price following receipt
of the Alert, the Company will attempt to execute the Order and
the trade will be finalized.
C. Any trade executed at a price outside of the No
Cancellation Range (as defined below), if identified to the
Company within the designated time period, may be considered an
alleged error trade.
D. The Reasonability Levels applicable to each Company
Contract will be listed on the Company's website.
E. Any trade which is alleged to be an error trade and
subsequently is canceled due to the determination that it has
been executed at an unrepresentative price may be investigated
by the Company.
F. There is a defined ``no cancellation range'' (``No
Cancellation Range'') for each Company Contract. Trades
executed within this price range will not be canceled or price
adjusted. A component of market integrity is the assurance that
once executed, except in exceptional circumstances, a trade
will stand and not be subject to cancellation or price
adjustment. Any trades that do not have an adverse effect on
the market should not be able to be canceled or price adjusted,
even if executed in error.
G. In applying the No Cancellation Range, the Company shall
determine the fair market price for the Company Contract. The
Company may consider any relevant information including, but
not limited to, the bid, the ask, the bid size, the ask size,
and the spot price.
H. The No Cancellation Range will be determined per Company
Contract and will be available on the Company's website.
I. If a trade takes place within the No Cancellation Range
and is alleged to be an error, the trade will not be canceled.
J. Trades executed outside of the No Cancellation Range may
be reported to or considered by the Company as an error.
K. Market users have ten (10) minutes from the time of the
original trade in which to allege a trade has been executed in
error.
L. The Company will notify the market immediately through its
website that an error has been alleged, giving details of the
trade, including Company Contract month, price and volume. The
Company also will notify the Participants involved via e-mail.
The Company will then notify all Participants through a
Participant Notice whether the price is adjusted or the trade
is canceled or stands. The Company will then contact those
parties involved in the trade to explain the Company's
decision.
M. In order to assist the Company in determining whether the
trade alleged to be an error has taken place at an
unrepresentative price, the Company may contact/consult
Participants and other market Participants. The Company will
not disclose to the parties to the alleged error trade the
identity of their counterparty. In addition, the identities of
the counterparties to the alleged error trade will not be
disclosed to any Participant or other Person the Company may
consult with. The Company will take into account a variety of
market factors in its determination. Each error situation will
be assessed on its individual circumstances.
N. If the Company determines that a trade price is outside
the No Cancellation Range for a Company Contract, the trade
price may be adjusted to a price that equals the fair value
market price for that Company Contract at the time the trade
under review occurred. The Company may consult and obtain the
consent of the parties to the price adjustment or may determine
a price adjustment is appropriate regardless of any party's
consent or lack thereof. The Company, at its discretion, may
allow the trades to stand or cancel the trades rather than
adjusting the price. The decision of the Company is final.
O. If the Company determines that the price differential of a
spread trade is not representative of the market for that
spread trade at the time of execution, then the differential of
such spread trade may be adjusted to the price differential for
that spread trade at the time the trade under review occurred.
The Company, at its discretion, may allow the trades to stand
or cancel the trades rather than adjusting the price
differential. The decision of the Company is final.
P. The Company will make every attempt to ensure that a
decision on whether an alleged error trade will have its price
adjusted, will stand or be canceled will be communicated to the
market as soon as reasonably possible after the time of the
original trade.
Q. The Company has the unilateral right to cancel any Order,
adjust the price of a trade and cancel any trade which it
considers to be at an unrepresentative price, even where there
has been no referral or request from a Participant or other
Person, in the interest of maintaining a fair and orderly
market. The Company aims to exercise this right within thirty
(30) minutes after the trade has been identified. The Company
also reserves its right to cancel any Order, adjust the price
of a trade and cancel any trade due to any market disrupting
event caused by (i) an error in Orders submitted to the
Platform or (ii) a technology failure or system malfunction,
even where there has been no referral or request from a
Participant or other Person, in the interest of maintaining a
fair and orderly market and aims to exercise this right within
thirty (30) minutes after the system or technology failure has
been identified. The Company reserves its right to consider
each alleged error trade situation on its individual merits and
may therefore amend these policies in light of the
circumstances of each individual case. The decision of the
Company is final.
R. Canceled trades and prices that have been adjusted will be
noted as such in the Company's official record of time and
sales. A special marker will indicate trades that have been
priced adjusted in the official record of time and sales at the
adjusted trade price.
S. Neither the company nor any of its representatives, its
affiliates or its affiliates' representatives shall be liable
to any person, or any partner, director, officer, agent,
employee, authorized user or authorized representative thereof,
for any loss, damage, injury, delay, cost, expense, or other
liability or claim, whether in contract, tort or restitution,
or under any other cause of action, suffered by or made against
them arising from any act or omission on the part of the
company, its representatives, its affiliates or its affiliates'
representatives relating to any decision by the company to, or
to not, void, nullify or cancel orders or trades or adjust the
prices of any trades in whole or in part. This limitation of
liability will apply regardless of whether or not the company,
its representatives, its affiliates or its affiliates'
representatives (or any designee thereof) were advised of or
otherwise might have anticipated the possibility of such
damages.
Rule 11.9 Company Contacts
All requests to cancel Orders or trades must be directed to the
Company via the Participant Portal or the Company telephone number
posted on the website. Any such request for the removal of Orders will
be acted upon on a best-efforts basis by the relevant Company
Personnel.
Rule 11.10 Reasonability Levels
The Error Trade Policy includes Reasonability Levels and No
Cancellation Ranges for all Company Contracts on the Platform.
A. Benchmark:
1. If there exists a last price in the applicable
Company Contract in the last 48 hours, then such price
will be used as the benchmark; or
2. If there exists no last price but there is a bid
AND an ask in the last 48 hours, then the Company will
use the midpoint of the most recent bid & most recent
ask as the benchmark.
B. Reasonability Levels:
1. If Benchmark 1 or 2 is applicable, then the
Reasonability Level = 50% of the Benchmark; or
a. If neither Benchmark 1 nor 2 apply, then
there will be no alerts generated for this
Company Contract and error trades are subject
to the No Cancellation Range and Company
discretion with respect to adjusting or
canceling trades.
Rule 11.11 No Cancellation Ranges
A. Benchmark:
1. If there exists a last price in the applicable Company
Contract in the last 48 hours, then such price will be used as
the benchmark; or
2. If there exists no last price but there is a bid AND an
ask in the last 48 hours, then the Company will use the
midpoint of the most recent bid and most recent ask as the
benchmark.
B. No Cancellation Range:
1. If Benchmark 1 or 2 is applicable, then the No
Cancellation Range = 20% of the Benchmark; or
2. If neither Benchmark 1 nor 2 apply, then there is not a No
Cancellation Range for that Company Contract at that time and
the Company will evaluate each error alleged error trade
situation on its individual merits and the facts and
circumstances of each individual case.
Rule 11.12 Amendments to the Rules
These Rules may be amended or repealed, or new Rules may be
adopted. An amendment to a Rule, repeal of a Rule or adoption of a new
Rule shall be effective on a date set forth by the Company, and set
forth in a Participant Notice and on the Website.
Rule 11.13 Transfer of Trades
A. The Chief Compliance Officer or his or her designee may, upon
request by the Participant(s), approve a transfer of existing trades
and collateral either on the books of the same Participant, or from the
books of one Participant to the books of another Participant if the
transfer is (i) between accounts with identical beneficial ownership or
(ii) in connection with, or as a result of, an asset purchase,
corporate restructuring, consolidation or similar non-recurring
transaction between two or more entities. Such a transfer must meet
each of the following conditions:
1. The transfer must result in the transfer of all existing
open positions and collateral in the transferor account;
2. Immediately prior to the transfer, the transferee account
must not have any existing open positions or collateral; and
3. All trades involved in the transfer must remain fully
collateralized upon completion of the transfer.
B. Provided that the transfer is permitted pursuant to paragraph
(A) above, the transactions must be recorded and carried on the books
of the receiving Participant at the original trade dates with the
original trade prices.
C. All transfers shall be reported to the Company in a form
acceptable to the Company for the type of transactions involved. The
Participant(s) involved shall maintain a full and complete record of
all transactions together with all pertinent memoranda.
Rule 11.14 Digital Currency Fork Policy
At some point in the future, there may be a change, or anticipated
change, to the relevant operating rules, protocols, processes, or
standards applicable to a Digital Currency underlying a Company
Contract, including without limitation a hard fork, a user activated
soft fork, or other events resulting in a split, division, alteration,
conversion, replacement, of substitution of a Digital Currency into
another form, a restriction on the transfer of the Digital Currency
(such as a lockup or freeze), or a distribution of another asset to
existing holders of the Digital Currency (such as an airdrop). Such an
event may result in the creation of an asset that is subject to the
Securities Act of 1933, as amended, and is subject to the jurisdiction
of the U.S. Securities and Exchange Commission
In the event of such change, or anticipated change, LedgerX shall
have the sole discretion to take such action, including (without
limitation) emergency action under Rule 2.12, that it deems
appropriate. Such action may include (without limitation) revising
delivery obligations under the Company Contract (such as providing for
the delivery of one or more assets resulting from such an event),
revising other terms of the Company Contract, determining who should
receive a newly created digital assets, assigning newly listed Company
Contracts to Participants whose positions have been, or are anticipated
to be affected, or refusing to transfer a newly created asset that is
or may be subject to the Securities Act of 1933 or the jurisdiction of
the U.S. Securities and Exchange Commission. LedgerX shall endeavor to
provide reasonable notice to market participants and take action in
consultation with market participants, where reasonably possible and
appropriate, and shall endeavor to align the exposures of Participants
holding positions in open Company Contracts with exposures in the spot
market.
Chapter 12 Company Contract Specifications
Rule 12.1 USD/BTC Options
A. Contract Description. Generally speaking, an option is an
agreement that grants the option purchaser, in exchange for a premium,
the right, but not the obligation, to purchase from (in the case of a
call option) or to sell to (in the case of a put option) the option
writer, at a specified exercise or ``strike'' price, and at specified
time(s) or within a specified period, a specified underlying interest.
This Rule 12.1 pertains to options on bitcoin (as described further
herein) (the ``USDBTC Options'') and contains general terms and
conditions. Participants may enter into USDBTC Options as buyers or
sellers of calls and/or puts.
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours that are applicable to USDBTC
Options will be as stated in Rule 5.6 above.
D. Currency. The currency applicable to USDBTC Options will be
United States dollars, expressed as dollars and cents per bitcoin.
E. Underlying. The USDBTC Option underlying will be bitcoin
(sometimes referred to as ``BTC'').
F. Contract Size. Each USDBTC Option contract size will be one
bitcoin.
G. Position Limits. No person will own or control positions in
excess of:
a. 100,000 USDBTC Options net long or net short in any single
Company Contract month; or
b. 250,000 USDBTC Option net long or net short in all Company
Contract months combined.
H. Collateral. All Company Contracts will be fully collateralized.
Each Participant must post the maximum potential loss on a USDBTC
Option prior to executing a USDBTC Option.
I. Option Conventions.
a. Traded Price. The traded price on the Trade Date.
b. Strike Price. As of any Trade Date, (i) a range of
approximately 15% up and 15% down from the approximate
prevailing spot market price as of such date, with increments
of $100.00, (ii) a smaller number of additional strikes in
increments ranging from $250.00 to $1,000.00 for prices between
20% and 300% of the approximate prevailing spot market price as
of such date, and (iii) any previously-listed strikes with
remaining open interest, in each case as may be determined and
listed from time to time by the Company in its sole discretion.
c. Daily Settlement Price. None. Because all Company
Contracts are fully collateralized and physically settled, it
is not necessary for the Company to publish a settlement price.
Each Participant determines whether the intrinsic value of the
underlying is greater than the relevant Strike Price as of the
Last Trading Date and makes a corresponding decision as to
exercise.
d. Business Day Convention. Previous.
e. Exercise Type. European.
f. Contract Series. Consecutive months up to and including 60
months from the month including the Trade Date, or as otherwise
determined and listed from time to time by the Company in its
sole discretion.
g. Last Trading Date. The last Friday of each USDBTC Option
month.
h. Expiration Time. With respect to any USDBTC Option, 4:00
p.m. New York time on the Last Trading Date applicable thereto.
i. Settlement. Physical delivery upon exercise. With respect
to any USDBTC Option, physical delivery will occur on the
Business Day next succeeding the Last Trading Day in respect of
such Company Contract.
j. Final Payment Date. With respect to any USDBTC Option, the
Business Day next succeeding the Last Trading Day in respect of
such Company Contract.
J. Exercise. On the Last Trading Date, Participants submit or
update exercise instructions for any long USDBTC Option positions. All
exercise instructions are processed on the Last Trading Date not
earlier than 5:00 p.m.
Because the Company does not publish a settlement price, there is
no provision for automatic exercise of Company Contracts.
K. Block Trading. Each USDBTC Option Block Trade must be
effectuated in accordance with Rule 5.7. The minimum block size for the
USDBTC Option is equal to the contract size set forth in Section F
above. All parties to a USDBTC Option Block Trade must be Eligible
Contract Participants.
Rule 12.2 Day-Ahead USD/BTC Swaps
A. Contract Description. The term ``swap'' is a generic one that
covers many types of instruments, including (among other things) any
agreement, contract or transaction that is for the purchase or sale of
any one or more currencies or commodities. This Rule 12.2 pertains to
swaps on bitcoin (as described further herein) (the ``Day-ahead
Swaps'') and contains general terms and conditions. A Participant may
enter into a Day-ahead Swap as a buyer, whereby such Participant will
pay USD and receive BTC, or as a seller, whereby such Participant will
pay BTC and receive USD. The Day-ahead Swap requires that a buyer pay
USD on the Initial Payment Date, and that the seller pay BTC on the
Final Payment Date.
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours that are applicable to the Day-
ahead Swap will be as stated in Rule 5.6 above.
D. Currency. The currency applicable to Day-ahead Swaps will be
United States dollars, which will be expressed in dollars and cents per
bitcoin.
E. Underlying. The underlying applicable to Day-ahead Swaps will be
bitcoin (sometimes referred to as ``BTC'').
F. Contract Size. Each Day-ahead Swap will be for a single
Underlying (i.e., one bitcoin).
G. Position Limits. As of any date of determination, no person will
own or control positions in excess of 100,000 Day-ahead Swaps.
H. Collateral. All Company Contracts will be fully collateralized.
Before the Company will accept a buy order for one or more Day-ahead
Swaps from a Participant, such Participant must have sufficient USD
available for trading in its account to satisfy its settlement
obligations on such Company Contract(s). Before the Company will accept
a sell order for one or more Day-ahead Swaps from a Participant, such
Participant must have sufficient bitcoin available for trading in its
account to satisfy its delivery obligations on such Company
Contract(s).
I. Swap Tenor. One Business Day.
J. Swap Conventions.
a. Trade Date. With respect to any Day-ahead Swap, the date
on which the Company, in its sole discretion, accepts a buy or
sell order, as the case may be.
b. Effective Date. With respect to any Day-ahead Swap, the
Trade Date applicable thereto.
c. Minimum Price Fluctuation. With respect to any Day-ahead
Swap, $0.25.
d. Initial Payment Date. With respect to any Day-ahead Swap,
the Trade Date applicable thereto. The buyer of a Day-ahead
Swap will pay the bid amount of such Company Contract on the
Trade Date thereof.
e. Premium. With respect to any Day-ahead Swap, the Buyer
thereof will pay the premium thereon on the Initial Payment
Date. In the context of a Day-ahead Swap, the bid amount is
equal to the Premium.
f. Final Payment Date. With respect to any Day-ahead Swap,
the Business Day next succeeding the Trade Date applicable
thereto.
g. Expiration Time. With respect to any Day-ahead Swap, 4:00
p.m. New York time (EDT/EST) on the Trade Date applicable
thereto.
h. Business Day Convention. Previous.
i. Settlement. Physical delivery. With respect to any Day-
ahead Swap, physical delivery will occur on the Final Payment
Date applicable thereto.
K. Block Trading. Each Day-ahead Swap Block Trade must be
effectuated in accordance with Rule 5.7. The minimum block size for the
Day-ahead Swap is equal to the contract size set forth in Section F
above. All parties to a Day-ahead Swap Block Trade must be Eligible
Contract Participants.
Rule 12.3 USD/BTC Weekly Options
A. Contract Description. Generally speaking, an option is an
agreement that grants the option purchaser, in exchange for a premium,
the right, but not the obligation, to purchase from (in the case of a
call option) or to sell to (in the case of a put option) the option
writer, at a specified exercise or ``strike'' price, and at specified
time(s) or within a specified period, a specified underlying interest.
This Rule 12.3 pertains to options on bitcoin (as described further
herein) (the ``USDBTC Weekly Options'') and contains general terms and
conditions. Participants may enter into USDBTC Weekly Options as buyers
or sellers of calls and/or puts.
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The Trading Hours that are applicable to the
USDBTC Weekly Option will be as stated in Rule 5.6 above; provided,
that, with respect to a USDBTC Weekly Option with any given tenor and/
or strike, the Company may establish different Trading Hours by
providing notice to participants on its Website and by Participant
Notice.
D. Currency. The currency applicable to USDBTC Weekly Options will
be United States dollars, expressed as dollars and cents per bitcoin.
E. Underlying. The USDBTC Weekly Option underlying will be bitcoin
(sometimes referred to as ``BTC'').
F. Contract Size. Each USDBTC Weekly Option will be one bitcoin.
G. Position Limits. No person will own or control positions in
excess of:
a. 100,000 USDBTC Weekly Options net long or net short in any
single Company Contract month; or
b. 250,000 USDBTC Weekly Options net long or net short in all
Company Contract months combined.
H. Collateral. All Company Contracts will be fully collateralized.
Each Participant must post the maximum potential loss on a USDBTC
Weekly Option prior to executing a USDBTC Weekly Option.
I. Option Conventions.
a. Traded Price. The traded price on the Trade Date.
b. Strike Price. As of any Trade Date, (i) a range of
approximately 15% up and 15% down from the approximate
prevailing spot market price as of such date, with increments
of $100.00, (ii) a smaller number of additional strikes in
increments ranging from $250.00 to $1,000.00 for prices between
20% and 300% of the approximate prevailing spot market price as
of such date, and (iii) any previously-listed strikes with
remaining open interest, in each case as may be determined and
listed from time to time by the Company in its sole discretion.
c. Daily Settlement Price. None. Because all Company
Contracts are fully collateralized and physically settled, it
is not necessary for the Company to publish a settlement price.
Each Participant determines whether the intrinsic value of the
underlying is greater than the relevant Strike Price as of the
Last Trading Date and makes a corresponding decision as to
exercise.
d. Business Day Convention. Previous.
e. Exercise Type. European.
f. Contract Series. Consecutive weeks up to and including 4
weeks from the week including the Trade Date, or as otherwise
determined and listed from time to time by the Company in its
sole discretion.
g. Last Trading Date. Friday of each calendar week.
h. Last Trading Time. 4:00 p.m. ET on the Last Trading Date.
i. Settlement. Physical delivery upon exercise. With respect
to any USDBTC Weekly Option, physical delivery will occur on
the Business Day next succeeding the Last Trading Day in
respect of such Company Contract.
j. Final Payment Date. With respect to any USDBTC Weekly
Option, the Business Day next succeeding the Last Trading Day
in respect of such Company Contract.
J. Exercise. On the Last Trading Date, Participants submit or
update exercise instructions for any long USDBTC Weekly Option
positions. All exercise instructions are processed on the Last Trading
Date not earlier than 5:00 p.m. ET.
Because the Company does not publish a settlement price, there is
no provision for automatic exercise of Company Contracts.
K. Block Trading. Each USDBTC Weekly Option Block Trade must be
effectuated in accordance with Rule 5.7. The minimum block size for the
USDBTC Weekly Option is equal to the contract size set forth in Section
F above. All parties to a USDBTC Weekly Option Block Trade must be
Eligible Contract Participants.
Rule 12.4 Day-Ahead USD/BTC Options
A. Contract Description. Generally speaking, an option is an
agreement that grants the option purchaser, in exchange for a premium,
the right, but not the obligation, to purchase from (in the case of a
call option) or to sell to (in the case of a put option) the option
writer, at a specified exercise or ``strike'' price, and at specified
time(s) or within a specified period, a specified underlying interest.
This Rule 12.4 pertains to options on bitcoin (as described further
herein) (the ``USDBTC Day-ahead Options'') and contains general terms
and conditions. Participants may enter into USDBTC Day-ahead Options as
buyers or sellers of calls and/or puts.
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The Trading Hours that are applicable to the
USDBTC Day-ahead Option will be as stated in Rule 5.6 above; provided,
that, with respect to a USBTC Day-ahead Option with any given tenor
and/or strike, the Company may establish different Trading Hours by
providing notice to participants on its Website and by Participant
Notice.
D. Currency. The currency applicable to USDBTC Day-ahead Options
will be United States dollars, expressed as dollars and cents per
bitcoin.
E. Underlying. The USDBTC Day-ahead Option underlying will be
bitcoin (sometimes referred to as ``BTC'').
F. Contract Size. Each USDBTC Day-ahead Option will be one bitcoin.
G. Position Limits. No person will own or control positions in
excess of: 100,000 USDBTC Day-ahead Options net long or net short.
H. Collateral. All Company Contracts will be fully collateralized.
Each Participant must post the maximum potential loss on a USDBTC Day-
ahead Option prior to executing a USDBTC Day-ahead Option.
I. Option Conventions.
a. Traded Price. The traded price on the Trade Date.
b. Strike Price. As of any Trade Date, (i) a range of
approximately 15% up and 15% down from the approximate
prevailing spot market price as of such date, with increments
of $50.00, (ii) a smaller number of additional strikes in
increments ranging from $100.00 to $1,000.00 for prices between
20% and 300% of the approximate prevailing spot market price as
of such date, and (iii) any previously-listed strikes with
remaining open interest, in each case as may be determined and
listed from time to time by the Company in its sole discretion.
c. Daily Settlement Price. None. Because all Company
Contracts are fully collateralized and physically settled, it
is not necessary for the Company to publish a settlement price.
Each Participant determines whether the intrinsic value of the
underlying is greater than the relevant Strike Price as of the
Last Trading Date and makes a corresponding decision as to
exercise.
d. Business Day Convention. Previous.
e. Exercise Type. European.
f. Last Trading Time. With respect to any USDBTC Day-ahead
Option, 4:00 p.m. New York time (EDT/EST) on the Trade Date
applicable thereto.
g. Settlement. With respect to any USDBTC Day-ahead Option,
physical delivery will occur on the Final Payment Date
applicable thereto.
h. Final Payment Date. With respect to any USDBTC Day-ahead
Option, the Business Day next succeeding the Trade Date
applicable thereto.
J. Exercise. On the Last Trading Date, Participants submit or
update exercise instructions for any long USDBTC Day-ahead Option
positions. All exercise instructions are processed on the Last Trading
Date not earlier than 5:00 p.m. ET.
Because the Company does not publish a settlement price, there is
no provision for automatic exercise of Company Contracts.
K. Block Trading. Each USDBTC Day-ahead Option Block Trade must be
effectuated in accordance with Rule 5.7. The minimum block size for the
USDBTC Day-ahead Option is equal to the contract size set forth in
Section F above. All parties to a USDBTC Day-ahead Option Block Trade
must be Eligible Contract Participants.
Rule 12.5 BTC Block Height Options
A. Contract Description. This Rule 12.5 pertains to an options
contract (as described further herein) (the ``Block Height Options'')
and contains general terms and conditions. The Block Height Options
contract is a binary options contract on whether bitcoin has reached a
particular Bitcoin Block Height (as defined below) before a specific
date and time. A purchaser of a Block Height Options contract will
receive the Payout Value (as defined below) if the bitcoin blockchain
has reached the Bitcoin Block Height before the expiration of the
contract. In contrast, the purchaser will not receive the Payout Value
if the bitcoin blockchain has not reached the Bitcoin Block Height
before the expiration of the contract.
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Bitcoin Block Height. The block number as part of the bitcoin
blockchain. The Bitcoin Block Height shall be specified by the Company
for the Company Contract.
D. Trading Hours. The trading hours that are applicable to the BTC
Block Height Options will be as stated in Rule 5.6 above.
E. Currency. The currency applicable to BTC Block Height Options
will be United States dollars, expressed as dollars and cents per
bitcoin.
F. Underlying. The BTC Block Height Options underlying will be
Bitcoin Block Height.
G. Position Limits. As of any date of determination, no person will
own or control positions in excess of 100,000 options.
H. Collateral. All Company Contracts will be fully collateralized.
Each Participant must post the maximum potential loss on a Company
Contract prior to executing a Company Contract.
I. Expiration Date. The Expiration Date shall be the date specified
by the Company for the Company Contract.
J. Expiration Time. The Expiration Time shall be the time specified
by the Company for the Company Contract.
K. Settlement Date. The Settlement Date shall be the earlier of the
date on which the Bitcoin Block Height is reached, or the Expiration
Date.
L. Payout Criterion. If the Bitcoin Block Height has been reached
prior to the Expiration Time on the Expiration Date, the Company
Contract shall payout the Payout Value at such time that the Block
Height has reached 6 confirmations.
M. Payout Value. $100.00.
N. Block Trading. The BTC Block Height Option is not eligible for
Block Trading.
Rule 12.6 Monthly USD/BTC Mini Options
A. Contract Description. Generally speaking, an option is an
agreement that grants the option purchaser, in exchange for a premium,
the right, but not the obligation, to purchase from (in the case of a
call option) or to sell to (in the case of a put option) the option
writer, at a specified exercise or ``strike'' price, and at specified
time(s) or within a specified period, a specified underlying interest.
This Rule 12.6 pertains to options on bitcoin (as described further
herein) (the ``USDBTC Monthly Mini Options'') and contains general
terms and conditions. Participants may enter into USDBTC Monthly Mini
Options as buyers or sellers of calls and/or puts.
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours that are applicable to the
USDBTC Monthly Mini Options will be as stated in Rule 5.6 above.
D. Currency. The currency applicable to USDBTC Monthly Mini Options
will be United States dollars, which will be expressed in dollars and
cents per bitcoin.
E. Underlying. The underlying applicable to USDBTC Monthly Mini
Options will be bitcoin (sometimes referred to as ``BTC'').
F. Contract Size. Each USDBTC Monthly Mini Option will be for \1/
100\ Underlying (i.e., one-one hundredth bitcoin).
G. Position Limits. As of any date of determination, no person will
own or control positions in excess of 2,000,000 USDBTC Monthly Mini
Options.
H. Collateral. All Company Contracts will be fully collateralized.
Before the Company DCM will accept a buy order for one or more USDBTC
Monthly Mini Options from a Participant, such Participant must have
sufficient USD available for trading in its account to satisfy its
settlement obligations on such Company Contract(s). Before the Company
DCM will accept a sell order for one or more USDBTC Monthly Mini
Options from a Participant, such Participant must have sufficient
bitcoin available for trading in its account to satisfy its delivery
obligations on such Company Contract(s).
I. Conventions.
a. Trade Date. With respect to any USDBTC Monthly Mini
Option, the date on which the Company, in its sole discretion,
accepts a buy or sell order, as the case may be.
b. Effective Date. With respect to any USDBTC Monthly Mini
Option, the Trade Date applicable thereto.
c. Minimum Price Fluctuation. With respect to any USDBTC
Monthly Mini Option, $0.01.
d. Initial Payment Date. With respect to any USDBTC Monthly
Mini Option, the Trade Date applicable thereto. The buyer of a
USDBTC Monthly Mini Option will pay the bid amount of such
Company Contract on the Trade Date thereof.
e. Premium. With respect to any USDBTC Monthly Mini Option,
the Buyer thereof will pay the premium thereon on the Initial
Payment Date. In the context of a USDBTC Monthly Mini Option,
the bid amount is equal to the Premium.
f. Last Trading Date. Friday of the calendar month, or as
otherwise determined by the Company in its sole discretion.
g. Business Day Convention. Previous.
h. Final Payment Date. With respect to any USDBTC Monthly
Mini Option, the Business Day next succeeding the Last Trading
Date.
i. Settlement. Physical delivery on the Final Payment Date.
J. Block Trading. Each USDBTC Monthly Mini Option Block Trade must
be effectuated in accordance with Rule 5.7. The minimum block size for
the USDBTC Monthly Mini Option is equal to 100 contracts. All parties
to a USDBTC Monthly Mini Option Block Trade must be Eligible Contract
Participants.
Rule 12.7 Day-Ahead USD/BTC Mini Swaps
A. Contract Description. The term ``swap'' is a generic one that
covers many types of instruments, including (among other things) any
agreement, contract or transaction that is for the purchase or sale of
any one or more currencies or commodities. A Participant may enter into
a Company Contract as a buyer, whereby such Participant will pay USD
and receive BTC, or as a seller, whereby such Participant will pay BTC
and receive USD. This Rule 12.7 pertains to swaps on bitcoin (as
described further herein) (the ``Day-ahead Mini Swaps'') and contains
general terms and conditions. The Day-ahead Mini Swap requires that a
buyer pay USD on the Initial Payment Date, and that the seller pay BTC
on the Final Payment Date.
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours that are applicable to the
USDBTC Day-ahead Mini Swap will be as stated in Rule 5.6 above.
D. Currency. The currency applicable to USDBTC Day-ahead Mini Swap
will be United States dollars, which will be expressed in dollars and
cents per bitcoin.
E. Underlying. The underlying applicable to USDBTC Day-ahead Mini
Swaps will be bitcoin (sometimes referred to as ``BTC'').
F. Contract Size. Each USDBTC Day-ahead Mini Swap will be for \1/
100\ Underlying (i.e., one-one hundredth bitcoin).
G. Position Limits. As of any date of determination, no person will
own or control positions in excess of 2,000,000 USDBTC Day-ahead Mini
Swaps.
H. Collateral. All Company Contracts will be fully collateralized.
Before the Company DCM will accept a buy order for one or more USDBTC
Day-ahead Mini Swaps from a Participant, such Participant must have
sufficient USD available for trading in its account to satisfy its
settlement obligations on such Company Contract(s). Before the Company
DCM will accept a sell order for one or more USDBTC Day-ahead Mini
Swaps from a Participant, such Participant must have sufficient bitcoin
available for trading in its account to satisfy its delivery
obligations on such Company Contract(s).
I. Conventions.
a. Trade Date. With respect to any USDBTC Day-ahead Mini
Swap, the date on which the Company, in its sole discretion,
accepts a buy or sell order, as the case may be.
b. Effective Date. With respect to any USDBTC Day-ahead Mini
Swap, the Trade Date applicable thereto.
c. Minimum Price Fluctuation. With respect to any USDBTC Day-
ahead Mini Swap, $0.01.
d. Initial Payment Date. With respect to any USDBTC Day-ahead
Mini Swap, the Trade Date applicable thereto. The buyer of a
USDBTC Day-ahead Mini Swap will pay the bid amount of such
Company Contract on the Trade Date thereof.
e. Premium. With respect to any USDBTC Day-ahead Mini Swap,
the Buyer thereof will pay the premium thereon on the Initial
Payment Date. In the context of a USDBTC Day-ahead Mini Swap,
the bid amount is equal to the Premium.
f. Last Trading Date. With respect to any Day-ahead Mini
Swap, the Business Day next succeeding the Trade Date
applicable thereto.
g. Business Day Convention. Previous.
h. Final Payment Date. With respect to any USDBTC Day-ahead
Mini Swap, the Business Day next succeeding the Last Trading
Date.
i. Settlement. Physical delivery on the Final Payment Date.
J. Block Trading. Each USDBTC Day-ahead Mini Swap Block Trade must
be effectuated in accordance with Rule 5.7. The minimum block size for
the USDBTC Day-ahead Mini Swap is equal to 100 contracts. All parties
to a USDBTC Day-ahead Mini Swap Block Trade must be Eligible Contract
Participants.
Rule 12.8 Weekly USD/BTC Mini Options
A. Contract Description. Generally speaking, an option is an
agreement that grants the option purchaser, in exchange for a premium,
the right, but not the obligation, to purchase from (in the case of a
call option) or to sell to (in the case of a put option) the option
writer, at a specified exercise or ``strike'' price, and at specified
time(s) or within a specified period, a specified underlying interest.
This Rule 12.8 pertains to options on bitcoin (as described further
herein) (the [``]USDBTC Weekly Mini Options'') and contains general
terms and conditions. Participants may enter into USDBTC Weekly Mini
Options as buyers or sellers of calls and/or puts.
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours that are applicable to the
USDBTC Weekly Mini Options will be as stated in Rule 5.6 above.
D. Currency. The currency applicable to USDBTC Weekly Mini Options
will be United States dollars, which will be expressed in dollars and
cents per bitcoin.
E. Underlying. The underlying applicable to USDBTC Weekly Mini
Options will be bitcoin (sometimes referred to as ``BTC'').
F. Contract Size. Each USDBTC Weekly Mini Option will be for \1/
100\ Underlying (i.e., one-one hundredth bitcoin).
G. Position Limits. As of any date of determination, no person will
own or control positions in excess of 2,000,000 USDBTC Weekly Mini
Options.
H. Collateral. All Company Contracts will be fully collateralized.
Before the Company DCM will accept a buy order for one or more USDBTC
Weekly Mini Options from a Participant, such Participant must have
sufficient USD available for trading in its account to satisfy its
settlement obligations on such Company Contract(s). Before the Company
DCM will accept a sell order for one or more USDBTC Weekly Mini Options
from a Participant, such Participant must have sufficient bitcoin
available for trading in its account to satisfy its delivery
obligations on such Company Contract(s).
I. Conventions.
a. Trade Date. With respect to any USDBTC Weekly Mini Option,
the date on which the Company, in its sole discretion, accepts
a buy or sell order, as the case may be.
b. Effective Date. With respect to any USDBTC Weekly Mini
Option, the Trade Date applicable thereto.
c. Minimum Price Fluctuation. With respect to any USDBTC
Weekly Mini Option, $0.01.
d. Initial Payment Date. With respect to any USDBTC Weekly
Mini Option, the Trade Date applicable thereto. The buyer of a
USDBTC Weekly Mini Option will pay the bid amount of such
Company Contract on the Trade Date thereof.
e. Premium. With respect to any USDBTC Weekly Mini Option,
the Buyer thereof will pay the premium thereon on the Initial
Payment Date. In the context of a USDBTC Weekly Mini Option,
the bid amount is equal to the Premium.
f. Last Trading Date. Friday of the calendar week, or as
otherwise determined by the Company in its sole discretion.
g. Business Day Convention. Previous.
h. Final Payment Date. With respect to any USDBTC Weekly Mini
Option, the Business Day next succeeding the Last Trading Date.
i. Settlement. Physical delivery on the Final Payment Date.
J. Block Trading. Each USDBTC Weekly Mini Option Block Trade must
be effectuated in accordance with Rule 5.7. The minimum block size for
the USDBTC Weekly Mini Option is equal to 100 contracts. All parties to
a USDBTC Weekly Mini Option Block Trade must be Eligible Contract
Participants.
Rule 12.9 Day-Ahead USD/BTC Futures
A. Contract Description. In general, a futures contract is a
legally binding agreement to buy or sell a standardized asset at a
specified time in the future. This Rule 12.9 pertains to futures on
bitcoin (as described further herein) (the ``Day-ahead Futures'') and
contains general terms and conditions. The Day-ahead Futures contract
requires that a buyer pay USD on the Initial Payment Date (as defined
below), and that the seller pay BTC on the Final Payment Date (as
defined below).
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours that are applicable to the Day-
ahead Futures contract will be as stated in Rule 5.6 above.
D. Currency. The currency applicable to Day-ahead Futures will be
United States dollars, which will be expressed in dollars and cents per
bitcoin.
E. Underlying. The underlying applicable to Day-ahead Futures will
be bitcoin (sometimes referred to as ``BTC'').
F. Contract Size. Each Day-ahead Futures contract will be for a
single Underlying (i.e., one bitcoin).
G. Position Limits. As of any date of determination, no person will
own or control positions in excess of 20,000 Day-ahead Futures.
H. Collateral. All Company Contracts will be fully collateralized.
Before the Company DCM will accept a buy order for one or more Day-
ahead Futures from a Participant, such Participant must have sufficient
USD available for trading in its account to satisfy its settlement
obligations on such Company Contract(s). Before the Company DCM will
accept a sell order for one or more Day-ahead Futures from a
Participant, such Participant must have sufficient bitcoin available
for trading in its account to satisfy its delivery obligations on such
Company Contract(s).
I. Tenor. One Business Day.
J. Conventions.
a. Trade Date. With respect to any Day-ahead Futures
contract, the date on which the Company, in its sole
discretion, accepts a buy or sell order, as the case may be.
b. Effective Date. With respect to any Day-ahead Futures
contract, the Trade Date applicable thereto.
c. Minimum Price Fluctuation. With respect to any Day-ahead
Futures contract, $0.25.
d. Initial Payment Date. With respect to any Day-ahead
Futures contract, the Trade Date applicable thereto. The buyer
of a Day-ahead Futures contract will pay the bid amount of such
Company Contract on the Trade Date thereof.
e. Premium. With respect to any Day-ahead Futures contract,
the Buyer thereof will pay the premium thereon on the Initial
Payment Date. In the context of a Day-ahead Futures contract,
the bid amount is equal to the Premium.
f. Final Payment Date. With respect to any Day-ahead Futures
contract, the Business Day next succeeding the Trade Date
applicable thereto.
g. Business Day Convention. Previous.
h. Settlement. Physical delivery. With respect to any Day-
ahead Futures contract, physical delivery will occur on the
Final Payment Date applicable thereto.
K. Block Trading. Each Day-ahead Futures Block Trade must be
effectuated in accordance with Rule 5.7. The minimum block size for the
Day-ahead Futures contract is equal to the contract size set forth in
Section F above. All parties to a Day-ahead Futures Block Trade must be
Eligible Contract Participants.
Rule 12.10 Weekly USD/BTC Futures
A. Contract Description. In general, a futures contract is a
legally binding agreement to buy or sell a standardized asset at a
specified time in the future. This Rule 12.10 pertains to futures on
bitcoin (as described further herein) (the ``USDBTC Weekly Futures'')
and contains general terms and conditions. The USDBTC Weekly Futures
contract requires that a buyer pay USD on the Initial Payment Date (as
defined below), and that the seller pay BTC on the Final Payment Date
(as defined below).
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours that are applicable to the
USDBTC Weekly Futures contract will be as stated in Rule 5.6 above.
D. Currency. The currency applicable to USDBTC Weekly Futures will
be United States dollars, which will be expressed in dollars and cents
per bitcoin.
E. Underlying. The underlying applicable to USDBTC Weekly Futures
will be bitcoin (sometimes referred to as ``BTC'').
F. Contract Size. Each USDBTC Weekly Futures contract will be for a
single Underlying (i.e., one bitcoin).
G. Position Limits. As of any date of determination, no person will
own or control positions in excess of 20,000 USDBTC Weekly Futures.
H. Collateral. All Company Contracts will be fully collateralized.
Before the Company DCM will accept a buy order for one or more USDBTC
Weekly Futures from a Participant, such Participant must have
sufficient USD available for trading in its account to satisfy its
settlement obligations on such Company Contract(s). Before the Company
DCM will accept a sell order for one or more USDBTC Weekly Futures from
a Participant, such Participant must have sufficient bitcoin available
for trading in its account to satisfy its delivery obligations on such
Company Contract(s).
I. Conventions.
a. Trade Date. With respect to any USDBTC Weekly Futures
contract, the date on which the Company, in its sole
discretion, accepts a buy or sell order, as the case may be.
b. Effective Date. With respect to any USDBTC Weekly Futures
contract, the Trade Date applicable thereto.
c. Minimum Price Fluctuation. With respect to any USDBTC
Weekly Futures contract, $0.25.
d. Initial Payment Date. With respect to any USDBTC Weekly
Futures contract, the Trade Date applicable thereto. The buyer
of a USDBTC Weekly Futures contract will pay the bid amount of
such Company Contract on the Trade Date thereof.
e. Premium. With respect to any USDBTC Weekly Futures
contract, the Buyer thereof will pay the premium thereon on the
Initial Payment Date. In the context of a USDBTC Weekly Futures
contract, the bid amount is equal to the Premium.
f. Last Trading Date. Friday of the calendar week, or as
otherwise determined by the Company in its sole discretion.
g. Business Day Convention. Previous.
h. Final Payment Date. With respect to any USDBTC Weekly
Futures contract, the Business Day next succeeding the Last
Trading Date.
i. Settlement. Physical delivery on the Final Payment Date.
J. Block Trading. Each USDBTC Weekly Futures Block Trade must be
effectuated in accordance with Rule 5.7. The minimum block size for the
USDBTC Weekly Futures contract is equal to the contract size set forth
in Section F above. All parties to a USDBTC Weekly Futures Block Trade
must be Eligible Contract Participants.
Rule 12.11 Monthly USD/BTC Futures
A. Contract Description. In general, a futures contract is a
legally binding agreement to buy or sell a standardized asset at a
specified time in the future. This Rule 12.11 pertains to futures on
bitcoin (as described further herein) (the ``USDBTC Monthly Futures'')
and contains general terms and conditions. The USDBTC Monthly Futures
contract requires that a buyer pay USD on the Initial Payment Date (as
defined below), and that the seller pay BTC on the Final Payment Date
(as defined below).
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours that are applicable to the
USDBTC Monthly Futures contract will be as stated in Rule 5.6 above.
D. Currency. The currency applicable to USDBTC Monthly Futures will
be United States dollars, which will be expressed in dollars and cents
per bitcoin.
E. Underlying. The underlying applicable to USDBTC Monthly Futures
will be bitcoin (sometimes referred to as ``BTC'').
F. Contract Size. Each USDBTC Monthly Futures contract will be for
a single Underlying (i.e., one bitcoin).
G. Position Limits. As of any date of determination, no person will
own or control positions in excess of 20,000 USDBTC Monthly Futures.
H. Collateral. All Company Contracts will be fully collateralized.
Before the Company DCM will accept a buy order for one or more USDBTC
Monthly Futures from a Participant, such Participant must have
sufficient USD available for trading in its account to satisfy its
settlement obligations on such Company Contract(s). Before the Company
DCM will accept a sell order for one or more USDBTC Weekly Futures from
a Participant, such Participant must have sufficient bitcoin available
for trading in its account to satisfy its delivery obligations on such
Company Contract(s).
I. Conventions.
a. Trade Date. With respect to any USDBTC Monthly Futures
contract, the date on which the Company, in its sole
discretion, accepts a buy or sell order, as the case may be.
b. Effective Date. With respect to any USDBTC Monthly Futures
contract, the Trade Date applicable thereto.
c. Minimum Price Fluctuation. With respect to any USDBTC
Monthly Futures contract, $0.25.
d. Initial Payment Date. With respect to any USDBTC Monthly
Futures contract, the Trade Date applicable thereto. The buyer
of a USDBTC Monthly Futures contract will pay the bid amount of
such Company Contract on the Trade Date thereof.
e. Premium. With respect to any USDBTC Monthly Futures
contract, the Buyer thereof will pay the premium thereon on the
Initial Payment Date. In the context of a USDBTC Monthly
Futures contract, the bid amount is equal to the Premium.
f. Last Trading Date. Friday of the calendar week, or as
otherwise determined by the Company in its sole discretion.
g. Business Day Convention. Previous.
h. Final Payment Date. With respect to any USDBTC Monthly
Futures contract, the Business Day next succeeding the Last
Trading Date.
i. Settlement. Physical delivery on the Final Payment Date.
J. Block Trading. Each USDBTC Monthly Futures Block Trade must be
effectuated in accordance with Rule 5.7. The minimum block size for the
USDBTC Monthly Futures contract is equal to the contract size set forth
in Section F above. All parties to a USDBTC Monthly Futures Block Trade
must be Eligible Contract Participants.
Rule 12.12 Day-Ahead USD/BTC Mini Futures
A. Contract Description. In general, a futures contract is a
legally binding agreement to buy or sell a standardized asset at a
specified time in the future. This Rule 12.12 pertains to futures on
bitcoin (as described further herein) (the ``Day-ahead Mini Futures'')
and contains general terms and conditions. The Day-ahead Mini Futures
contract requires that a buyer pay USD on the Initial Payment Date (as
defined below), and that the seller pay BTC on the Final Payment Date
(as defined below).
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours that are applicable to the Day-
ahead Mini Futures contract will be as stated in Rule 5.6 above.
D. Currency. The currency applicable to Day-ahead Mini Futures will
be United States dollars, which will be expressed in dollars and cents
per bitcoin.
E. Underlying. The underlying applicable to Day-ahead Mini Futures
will be bitcoin (sometimes referred to as ``BTC'').
F. Contract Size. Each Day-ahead Futures contract will be for a \1/
100\ Underlying (i.e., one-one hundredth bitcoin).
G. Position Limits. As of any date of determination, no person will
own or control positions in excess of 2,000,000 Day-ahead Futures.
H. Collateral. All Company Contracts will be fully collateralized.
Before the Company DCM will accept a buy order for one or more Day-
ahead Mini Futures from a Participant, such Participant must have
sufficient USD available for trading in its account to satisfy its
settlement obligations on such Company Contract(s). Before the Company
DCM will accept a sell order for one or more Day-ahead Futures from a
Participant, such Participant must have sufficient bitcoin available
for trading in its account to satisfy its delivery obligations on such
Company Contract(s).
I. Tenor. One Business Day.
J. Conventions.
a. Trade Date. With respect to any Day-ahead Mini Futures
contract, the date on which the Company, in its sole
discretion, accepts a buy or sell order, as the case may be.
b. Effective Date. With respect to any Day-ahead Mini Futures
contract, the Trade Date applicable thereto.
c. Minimum Price Fluctuation. With respect to any Day-ahead
Mini Futures contract, $0.01.
d. Initial Payment Date. With respect to any Day-ahead Mini
Futures contract, the Trade Date applicable thereto. The buyer
of a Day-ahead Futures contract will pay the bid amount of such
Company Contract on the Trade Date thereof.
e. Premium. With respect to any Day-ahead Mini Futures
contract, the Buyer thereof will pay the premium thereon on the
Initial Payment Date. In the context of a Day-ahead Mini
Futures contract, the bid amount is equal to the Premium.
f. Final Payment Date. With respect to any Day-ahead Mini
Futures contract, the Business Day next succeeding the Trade
Date applicable thereto.
g. Business Day Convention. Previous.
h. Settlement. Physical delivery. With respect to any Day-
ahead Mini Futures contract, physical delivery will occur on
the Final Payment Date applicable thereto.
K. Block Trading. Each Day-ahead Mini Futures Block Trade must be
effectuated in accordance with Rule 5.7. The minimum block size for the
Day-ahead Mini Futures contract is equal to 100 contracts. All parties
to a Day-ahead Mini Futures Block Trade must be Eligible Contract
Participants.
Rule 12.13 Weekly USD/BTC Mini Futures
A. Contract Description. In general, a futures contract is a
legally binding agreement to buy or sell a standardized asset at a
specified time in the future. This Rule 12.13 pertains to futures on
bitcoin (as described further herein) (the ``USDBTC Weekly Mini
Futures'') and contains general terms and conditions. The USDBTC Weekly
Mini Futures contract requires that a buyer pay USD on the Initial
Payment Date (as defined below), and that the seller pay BTC on the
Final Payment Date (as defined below).
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours that are applicable to the
USDBTC Weekly Mini Futures contract will be as stated in Rule 5.6
above.
D. Currency. The currency applicable to USDBTC Weekly Mini Futures
will be United States dollars, which will be expressed in dollars and
cents per bitcoin.
E. Underlying. The underlying applicable to USDBTC Weekly Mini
Futures will be bitcoin (sometimes referred to as ``BTC'').
F. Contract Size. Each USDBTC Weekly Mini Futures contract will be
for a \1/100\ Underlying (i.e., one-one hundredth bitcoin).
G. Position Limits. As of any date of determination, no person will
own or control positions in excess of 2,000,000 USDBTC Weekly Mini
Futures.
H. Collateral. All Company Contracts will be fully collateralized.
Before the Company DCM will accept a buy order for one or more USDBTC
Weekly Mini Futures from a Participant, such Participant must have
sufficient USD available for trading in its account to satisfy its
settlement obligations on such Company Contract(s). Before the Company
DCM will accept a sell order for one or more USDBTC Weekly Mini Futures
from a Participant, such Participant must have sufficient bitcoin
available for trading in its account to satisfy its delivery
obligations on such Company Contract(s).
I. Conventions.
a. Trade Date. With respect to any USDBTC Weekly Mini Futures
contract, the date on which the Company, in its sole
discretion, accepts a buy or sell order, as the case may be.
b. Effective Date. With respect to any USDBTC Weekly Mini
Futures contract, the Trade Date applicable thereto.
c. Minimum Price Fluctuation. With respect to any USDBTC
Weekly Mini Futures contract, $0.01.
d. Initial Payment Date. With respect to any USDBTC Weekly
Mini Futures contract, the Trade Date applicable thereto. The
buyer of a USDBTC Weekly Mini Futures contract will pay the bid
amount of such Company Contract on the Trade Date thereof.
e. Premium. With respect to any USDBTC Weekly Mini Futures
contract, the Buyer thereof will pay the premium thereon on the
Initial Payment Date. In the context of a USDBTC Weekly Mini
Futures contract, the bid amount is equal to the Premium.
f. Last Trading Date. Friday of the calendar week, or as
otherwise determined by the Company in its sole discretion.
g. Business Day Convention. Previous.
h. Final Payment Date. With respect to any USDBTC Weekly Mini
Futures contract, the Business Day next succeeding the Last
Trading Date.
i. Settlement. Physical delivery on the Final Payment Date.
J. Block Trading. Each USDBTC Weekly Mini Futures Block Trade must
be effectuated in accordance with Rule 5.7. The minimum block size for
the USDBTC Weekly Mini Futures contract is equal to 100 contracts. All
parties to a USDBTC Weekly Mini Futures Block Trade must be Eligible
Contract Participants.
Rule 12.14 Monthly USD/BTC Mini Futures
A. Contract Description. In general, a futures contract is a
legally binding agreement to buy or sell a standardized asset at a
specified time in the future. This Rule 12.14 pertains to futures on
bitcoin (as described further herein) (the ``USDBTC Monthly Mini
Futures'') and contains general terms and conditions. The USDBTC
Monthly Mini Futures contract requires that a buyer pay USD on the
Initial Payment Date (as defined below), and that the seller pay BTC on
the Final Payment Date (as defined below).
B. Bitcoin. Bitcoin is a computer network and protocol that allows
digital currency to be stored and transferred in a distributed manner
without the need for a central intermediary. The Bitcoin network is a
form of blockchain, which allows consensus to be built and maintained
on a distributed, decentralized basis by parties with no inherent
reason to trust one another. Each individual bitcoin transaction is
validated by the network of decentralized parties, or nodes, over a
period of time and then added to a ``block'', which is then
cryptographically linked to the immediately preceding block (over time,
creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours that are applicable to the
USDBTC Monthly Mini Futures contract will be as stated in Rule 5.6
above.
D. Currency. The currency applicable to USDBTC Monthly Mini Futures
will be United States dollars, which will be expressed in dollars and
cents per bitcoin.
E. Underlying. The underlying applicable to USDBTC Monthly Mini
Futures will be bitcoin (sometimes referred to as ``BTC'').
F. Contract Size. Each USDBTC Monthly Mini Futures contract will be
for \1/100\ Underlying (i.e., one-one hundredth bitcoin).
G. Position Limits. As of any date of determination, no person will
own or control positions in excess of 2,000,000 USDBTC Monthly Mini
Futures.
H. Collateral. All Company Contracts will be fully collateralized.
Before the Company DCM will accept a buy order for one or more USDBTC
Monthly Mini Futures from a Participant, such Participant must have
sufficient USD available for trading in its account to satisfy its
settlement obligations on such Company Contract(s). Before the Company
DCM will accept a sell order for one or more USDBTC Monthly Mini
Futures from a Participant, such Participant must have sufficient
bitcoin available for trading in its account to satisfy its delivery
obligations on such Company Contract(s).
I. Conventions.
a. Trade Date. With respect to any USDBTC Monthly Mini
Futures contract, the date on which the Company, in its sole
discretion, accepts a buy or sell order, as the case may be.
b. Effective Date. With respect to any USDBTC Monthly Mini
Futures contract, the Trade Date applicable thereto.
c. Minimum Price Fluctuation. With respect to any USDBTC
Monthly Mini Futures contract, $0.01.
d. Initial Payment Date. With respect to any USDBTC Monthly
Mini Futures contract, the Trade Date applicable thereto. The
buyer of a USDBTC Monthly Mini Futures contract will pay the
bid amount of such Company Contract on the Trade Date thereof.
e. Premium. With respect to any USDBTC Monthly Mini Futures
contract, the Buyer thereof will pay the premium thereon on the
Initial Payment Date. In the context of a USDBTC Monthly Mini
Futures contract, the bid amount is equal to the Premium.
f. Last Trading Date. Friday of the calendar month, or as
otherwise determined by the Company in its sole discretion.
g. Business Day Convention. Previous.
h. Final Payment Date. With respect to any USDBTC Monthly
Mini Futures contract, the Business Day next succeeding the
Last Trading Date.
i. Settlement. Physical delivery on the Final Payment Date.
J. Block Trading. Each USDBTC Monthly Mini Futures Block Trade must
be effectuated in accordance with Rule 5.7. The minimum block size for
the USDBTC Monthly Mini Futures contract is equal to 100 contracts. All
parties to a USDBTC Monthly Mini Futures Block Trade must be Eligible
Contract Participants.
Rule 12.15 USD/ETH Deci Options
A. Contract Description. A Participant may enter into a Company
Contract as the buyer or the seller of a call or put option contract on
ETH. For both call and put options, on the Initial Payment Date the
buyer must pay the Premium in USD and the seller's Participant Account
will be credited with the Premium in USD. On the Final Payment Date,
the buyer may elect to exercise the contract, at which point the
Company Contract will be settled as described in Rule 6.2. All Company
Contracts referencing Underlying Digital Currency, are subject to the
LedgerX Digital Currency Fork Policy found in Rule 11.14.
B. Ethereum. Ethereum is a computer network and protocol that
allows digital currency to be stored and transferred in a distributed
manner without the need for a central intermediary. The Ethereum
network is a form of blockchain, which allows consensus to be built and
maintained on a distributed, decentralized basis by parties with no
inherent reason to trust one another. Each individual Ethereum
transaction is validated by the network of decentralized parties, or
nodes, over a period of time and then added to a ``block'', which is
then cryptographically linked to the immediately preceding block (over
time, creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours of the Exchange that are
applicable to the Company Contract described in this Rule 12.15 will be
24 hours a day, 7 days a week or as otherwise determined by the
Exchange from time to time as disclosed on the Website and through
Participant Notice.
D. Currency. The currency applicable to USDETH Deci Options will be
United States dollars, which will be expressed in dollars and cents per
ETH.
E. Underlying. The underlying applicable to USDETH Deci Options
will be Ethereum (sometimes referred to as ``ETH'').
F. Contract Size. Each USDETH Deci Option will be for \1/10\
Underlying (i.e., one-tenth ETH).
G. Listing Cycle. LedgerX shall post in a location on its website
available to Participants a list of Company Contracts that are
available for trading. At a minimum, that list shall include Company
Contracts expiring on each of the four nearest Fridays, plus Company
Contracts that expire on the last Friday of each of the following three
calendar quarters.
H. Strike Prices and Intervals. For each expiration date on which
Company Contracts are listed, LedgerX shall list strike prices
denominated in U.S. dollars as follows:
For the nearest 4 weeks, LedgerX shall list Company Contracts with
at least five strike prices at each expiry. Those strike prices shall
be separated by equal intervals of at least $10, or such other greater
amount determined by LedgerX that is at least 20% above and below the
spot market trading range over the prior 4 week period.
For Company Contracts with later expiries, LedgerX shall list at
least three strike prices at each expiry in intervals determined at the
discretion of LedgerX based on its assessment of the movements of the
ETH spot market.
I. Exercise Style. European (Exercise available only on the day of
expiration per the terms of this contract specification).
J. Exercise Instructions and Procedures. For the buyer of a USDETH
Deci Option contract to exercise that contract, the buyer must submit
exercise instructions to the Exchange prior to the Final Payment Day/
Time, and have sufficient collateral available for trading in buyer's
account at that time to satisfy buyer's Settlement obligation. See
Rules 7.1 and 7.2. USDETH Deci Option contracts will not be exercised
automatically. See Rule 6.2.E.
K. Expiration. If a buyer of a USDETH Deci Option does not exercise
that option timely, or lacks sufficient collateral available for
trading to satisfy buyer's Settlement obligation, then the option shall
expire valueless.
L. Position Limits. As of any date of determination, no person will
own or control positions in excess of 1,000,000 USDETH Deci Options.
M. Collateral. All Company Contracts will be fully collateralized.
Before the Exchange will accept a buy order for an USDETH Deci Option
from a Participant, such Participant must have sufficient USD available
for trading in its account to satisfy its obligation to pay the Premium
on such Company Contract(s). Additional collateral is required from
buyer to exercise the option, as described above. Before the Exchange
will accept a sell order for one or more USDETH Deci Options from a
Participant, such Participant must have the following: (i) for call
options, the seller must have sufficient ETH available for trading in
its account to satisfy its delivery obligations on such Company
Contract at Settlement; or (ii) for put options, the seller must have
sufficient USD available for trading it its account to satisfy its
payment obligations at Settlement.
N. Conventions.
a. Trade Date. With respect to any USDETH Deci Option, the
date on which the Exchange, in its sole discretion accepts a
buy or sell order, as the case may be.
b. Effective Date. With respect to any USDETH Deci Option,
the Trade Date applicable thereto.
c. Strike Price. As of any Trade Date, the agreed price in
U.S. dollars to be paid at expiration for ETH.
d. Minimum Price Fluctuation. With respect to any USDETH Deci
Option, $0.01.
e. Initial Payment Date. With respect to any USDETH Deci
Option, the Trade Date applicable thereto. The buyer of a
USDETH Deci Option will pay the agreed amount of such Company
Contract on the Trade Date thereof.
f. Premium. With respect to any USDETH Deci Option, the Buyer
thereof will pay the premium thereon on the Initial Payment
Date.
g. Last Trading Day/Time. Up to but not including 5:00 p.m.
New York time (adjusted for daylight savings) on the Friday of
the week and month of expiry for that contract, or as otherwise
determined by the Exchange in its sole discretion.
h. Settlement. Physical delivery on the Final Payment Day/
Time.
O. Block Trading. Each Block Trade of as USDETH Deci Options must
be effectuated in accordance with Rule 5.7. The minimum block size for
the USDETH Deci Options is equal to 10 contracts. All parties to a
USDETH Deci Option Block Trade must be Eligible Contract Participants.
Rule 12.16 USD/ETH Deci Futures
A. Contract Description. A Participant may enter into a Company
Contract as a buyer, whereby such Participant will pay USD and receive
ETH, or as a seller, whereby such Participant will pay ETH and receive
USD. The Company Contract requires that a buyer pay USD on the Initial
Payment Date, and that the seller pay ETH on the Final Payment Date.
This Rule 12.16 pertains to Futures on ETH (as described further
herein) and contains general Company Contract terms and conditions.
B. Ethereum. Ethereum is a computer network and protocol that
allows digital currency to be stored and transferred in a distributed
manner without the need for a central intermediary. The Ethereum
network is a form of blockchain, which allows consensus to be built and
maintained on a distributed, decentralized basis by parties with no
inherent reason to trust one another. Each individual Ethereum
transaction is validated by the network of decentralized parties, or
nodes, over a period of time and then added to a ``block'', which is
then cryptographically linked to the immediately preceding block (over
time, creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours of the Exchange's Designated
Contract Market that are applicable to the Company Contract described
in this Rule 12.16 will be 24 hours a day, 7 days a week or as
otherwise determined by the Exchange from time to time as disclosed on
the Website and through Participant Notice.
D. Currency. The currency applicable to USDETH Deci Futures will be
United States dollars, which will be expressed in dollars and cents per
ETH.
E. Underlying. The underlying applicable to USDETH Deci Futures
will be Ether.
F. Contract Size. Each USDETH Deci Future will be for \1/10\
Underlying (i.e., one-tenth ETH).
G. Listing Cycle. LedgerX shall post in a location on its website
available to Participants a list of Company Contracts that are
available for trading. At a minimum, that list shall include Company
Contracts maturing on each of the four nearest Fridays, plus Company
Contracts that mature on the last Friday of each of the following three
calendar quarters.
H. Position Limits. As of any date of determination, no person will
own or control positions in excess of 1,000,000 USDETH Deci Futures.
I. Collateral. All Company Contracts will be fully collateralized.
Before the Exchange's Designated Contract Market will accept a buy
order for one or more USDETH Deci Futures from a Participant, such
Participant must have sufficient USD available for trading in its
account to satisfy its payment obligations on such Company Contract(s).
Before the Exchange's Designated Contract Market will accept a sell
order for one or more USDETH Deci Futures from a Participant, such
Participant must have sufficient ETH available for trading in its
account to satisfy its delivery obligations on such Company
Contract(s).
J. Conventions.
a. Trade Date. With respect to any USDETH Deci Future, the
date on which the Exchange, in its sole discretion accepts a
buy or sell order, as the case may be.
b. Effective Date. With respect to any USDETH Deci Future,
the Trade Date applicable thereto.
c. Minimum Price Fluctuation. With respect to any USDETH Deci
Future, $0.01.
d. Initial Payment Date. With respect to any USDETH Deci
Future, date on which the buyer of a USDETH Deci Future will
pay the Purchase Price shall be the Trade Date applicable
thereto.
e. Purchase Price. With respect to any USDETH Deci Future,
the total U.S. Dollar denominated amount that a Buyer agreed to
pay for a USDETH Deci Future is the Purchase Price.
f. Last Trading Day/Time. Up to but not including 5:00 p.m.
New York time (adjusted for daylight savings) on the Friday of
the week and month of expiry for that contract, or as otherwise
determined by the Exchange in its sole discretion.
g. Final Payment Day/Time. 5:00 p.m. New York time (adjusted
for daylight savings) on the Friday of the week and month of
expiry for that contract.
h. Settlement. Physical delivery on the Final Payment Day/
Time.
K. Block Trading. Each Block Trade of as USDETH Deci Future must be
effectuated in accordance with Rule 5.7. The minimum block size for the
USDETH Deci Future is equal to 10 contracts. All parties to a USDETH
Deci Future Block Trade must be Eligible Contract Participants.
Rule 12.17 Day-Ahead USD/ETH Deci Swaps
A. Contract Description. The term ``swap'' is a generic one that
covers many types of instruments, including (among other things) any
agreement, contract or transaction that is for the purchase or sale of
any one or more currencies or commodities. A Participant may enter into
a Company Contract as a buyer, whereby such Participant will pay USD
and receive ETH, or as a seller, whereby such Participant will pay ETH
and receive USD. This Rule 12.17 pertains to swaps on Ether (as
described further herein) (the ``Day-ahead USD/ETH Deci Swaps'') and
contains general terms and conditions. The Day-ahead USD/ETH Deci-Swap
requires that a buyer pay USD on the Initial Payment Date, and that the
seller pay ETH on the Final Payment Date. All Company Contracts
referencing Underlying Digital Currency, are subject to the LedgerX
Digital Currency Fork Policy found in Rule 11.14.
B. Ethereum. Ethereum is a computer network and protocol that
allows digital currency to be stored and transferred in a distributed
manner without the need for a central intermediary. The Ethereum
network is a form of blockchain, which allows consensus to be built and
maintained on a distributed, decentralized basis by parties with no
inherent reason to trust one another. Each individual Ethereum
transaction is validated by the network of decentralized parties, or
nodes, over a period of time and then added to a ``block'', which is
then cryptographically linked to the immediately preceding block (over
time, creating a chain, or a ``blockchain'').
C. Trading Hours. The trading hours of that are applicable to the
Company Contract described in this Rule 12.17 will be 24 hours a day, 7
days a week or as otherwise determined by the Exchange from time to
time as disclosed on the Website and through Participant Notice.
D. Currency. The currency applicable to Day-Ahead USD/ETH Deci
Swaps will be United States dollars, which will be expressed in dollars
and cents per ETH.
E. Underlying. The underlying applicable to Day-Ahead USD/ETH Deci
Swaps will be Ethereum (sometimes referred to as ``ETH'').
F. Contract Size. Each Day-Ahead USD/ETH Deci Swap will be for \1/
10\ Underlying (i.e., one-tenth ETH).
G. Listing Cycle. LedgerX shall list the Company Contract on a
daily basis as available for trading.
H. Prices and Intervals. LedgerX shall list prices denominated in
U.S. dollars. Those prices shall be separated by equal intervals of at
least $10, or such other greater amount determined by LedgerX that is
at least 20% above and below the spot market trading range over the
prior 1 week period.
I. Position Limits. As of any date of determination, no person will
own or control positions in excess of 1,000,000 Day-Ahead USD/ETH Deci
Swaps.
J. Collateral. All Company Contracts will be fully collateralized.
Before the Exchange will accept a buy order for a Day-Ahead USD/ETH
Deci Swap from a Participant, such Participant must have sufficient USD
available for trading in its account to satisfy its obligation to pay
the Premium on such Company Contract(s). Before the Exchange will
accept a sell order for one or more Day-Ahead USD/ETH Deci Swaps from a
Participant, such Participant must have sufficient ETH available for
trading in its account to satisfy its delivery obligations on such
Company Contract at Settlement.
K. Conventions.
a. Trade Date. With respect to any Day-Ahead USD/ETH Deci
Swap, the date on which the Exchange, in its sole discretion
accepts a buy or sell order, as the case may be.
b. Effective Date. With respect to any Day-Ahead USD/ETH Deci
Swap, the Trade Date applicable thereto.
c. Minimum Price Fluctuation. With respect to any Day-Ahead
USD/ETH Deci Swap, $0.01.
d. Initial Payment Date. With respect to any Day-Ahead USD/
ETH Deci Swap, the Trade Date applicable thereto. The buyer of
a Day-Ahead USD/ETH Deci Swap will pay the agreed Premium of
such Company Contract on the Trade Date thereof.
e. Premium. With respect to any Day-Ahead USD/ETH Deci Swap,
the Buyer thereof will pay the premium thereon on the Initial
Payment Date. In the context of a Day-Ahead USD/ETH Deci Swap,
the agreed amount is equal to the Premium.
f. Last Trading Day/Time. Up to but not including 5:00 p.m.
New York time (adjusted for daylight savings) on the Business
Day immediately preceding Settlement.
g. Final Payment Day/Time. 5:00 p.m. New York time (adjusted
for daylight savings) on the Business Day immediately after the
Last Trading Day/Time.
h. Settlement. Physical delivery on the Final Payment Day/
Time.
L. Block Trading. Each Block Trade of as Day-Ahead USD/ETH Deci
Swaps must be effectuated in accordance with Rule 5.7. The minimum
block size for the Day-Ahead USD/ETH Deci Swaps is equal to 10
contracts. All parties to a Day-Ahead USD/ETH Deci Swap Block Trade
must be Eligible Contract Participants.
Chapter 13 Clearing Services for Kalshi
Rule 13.1 Clearing Services for Kalshi
A. Rules Applicable to Clearing Services.
This Chapter 13 applies to the Clearing Services the Clearing
House will provide to Kalshi Participants for Kalshi Binary
Contracts.
B. Application of Rules[.]
Except as provided elsewhere in the Rules, only this Chapter
13 will apply to Clearing Services.
C. The Clearing Services.
The Clearing House shall provide the Clearing Services in a
timely, accurate and complete manner for all Kalshi Binary
Contracts that have been approved for clearing by the Clearing
House in accordance with this Chapter 13.
Rule 13.2 Clearance and Substitution of Kalshi Binary Contracts
Rule 13.2.1 Clearance and Substitution
A. Upon submission of a Kalshi Binary Contract for clearing, the
Clearing House will conduct a review of the Participant's Collateral
Account to ensure that the Participant can fully collateralize the
Kalshi Binary Contract prior to providing Clearing Services. If the
Participant's Collateral Account does not have the necessary funds and/
or collateral, the Clearing House will not accept the Kalshi Binary
Contract for clearing.
B. Upon the successful acceptance of the Kalshi Binary Contract,
the Clearing House shall immediately, through the process of Novation,
be substituted as and assume the position of seller to the Participant
buying and buyer to the Participant selling the relevant Kalshi Binary
Contract. Upon such substitution, the buying and selling Participants
shall be released from their Obligations to each other, and such
Participants shall be deemed to have bought the Kalshi Binary Contract
from or sold the Kalshi Binary Contract to the Clearing House, as the
case may be, and the Clearing House shall have all the rights and be
subject to all the liabilities of such Participants with respect to
such Kalshi Binary Contracts. Such substitution shall be effective in
law for all purposes. The Participants of the Kalshi Binary Contract
are deemed to consent to the Novation by submitting the Kalshi Binary
Contracts through KalshiEX, LLC to the Clearing House and the Clearing
House consents to the Novation by accepting the Kalshi Binary Contract
and performing the Clearing Services.
C. Kalshi Binary Contracts with the same terms and conditions, as
defined by the specifications of the Kalshi Binary Contracts, submitted
to the Clearing House for clearing, are economically equivalent within
the Clearing House and may be offset with each other within the
Clearing House.
D. Upon acceptance of a Kalshi Binary Contract by the Clearing
House for clearing:
1. The original Kalshi Binary Contract is extinguished;
2. The original Kalshi Binary Contract is replaced by an
equal and opposite Kalshi Binary Contract between the Clearing
House and each Participant; and
3. All terms of a cleared Kalshi Binary Contract must conform
to the Kalshi Binary Contract Specifications.
E. If a Kalshi Binary Contract is rejected for clearing by the
Clearing House for any reason, such Kalshi Binary Contract is void ab
initio.
Rule 13.2.2 Settlement of Kalshi Binary Contracts
A. The Company shall maintain, on its system, a record of each
Kalshi Participant's account balances and Kalshi Binary Contracts.
B. On the Settlement Date, the Clearing House will notify all
Kalshi Participants of the final amount payable.
Rule 13.2.3 Deposit Procedures
A. A Kalshi Participant must submit a deposit notification through
the Kalshi Participant Portal before the Kalshi Participant may deposit
funds with the Clearing House. A Kalshi Participant must deposit funds
on the same day as the Kalshi Participant submits to the Clearing House
a deposit notification to the Clearing House.
B. Deposits occur, and funds are available for use with respect to
Clearing Privileges, no later than the next Settlement Bank Business
Day after a Kalshi Participant submits a deposit notification and
deposits funds with the Clearing House in accordance with Rule
13.2.3.A.
C. Kalshi Participants are responsible for all transfers of funds
from their Clearing House-approved accounts to the Collateral Account.
D. In the event a Kalshi Participant deposits funds to the Clearing
House without submitting a deposit notification, the Kalshi Participant
agrees to: (1) cooperate with the Clearing House to resolve any issues
that may arise; and (2) agree that the Clearing House will send the
funds back to the account or address from which it was transferred
within two (2) Settlement Bank Business Days if there has been no
resolution.
Rule 13.2.4 Withdrawal Procedures
A. Only an Authorized Representative may submit a withdrawal
notification through the Kalshi Participant Portal before the Clearing
House transfers funds to a Kalshi Participant. Upon receipt of a
withdrawal notification, the Clearing House no longer permits funds in
the amount listed in the withdrawal notification to be used for
Clearing Privileges.
B. Kalshi Participants are responsible for providing accurate
account numbers to allow the Clearing House to effect transfers to the
Kalshi Participants.
C. Withdrawals occur, and funds are available, no later than the
next Settlement Bank Business Day after a Kalshi Participant has
submitted a withdrawal notification if the Kalshi Participant submits a
withdrawal notification during Trading Hours.
D. If a Kalshi Participant fails to adhere to the withdrawal
procedures set forth herein or in the Kalshi Binary Contract
Specifications, as applicable, the Clearing House will take reasonable
measures to effect the withdrawal; however, if unable to effect the
withdrawal, the Kalshi Participant's collateral may become the sole
property of the Clearing House, to the extent permitted by Applicable
Law. The Clearing House may apply the collateral against the
Obligations of a Kalshi Participant.
Rule 13.2.5 [Reserved]
Rule 13.2.6 Reconciliation
The Clearing House shall reconcile the positions and cash and
collateral balances of each Kalshi Participant at the end of each
Settlement Bank Business Day. The Clearing House shall make available
to each Kalshi Participant through Kalshi the positions and cash and
collateral balances of each such Kalshi Participant. All Kalshi
Participants shall be responsible for reconciling their records of
their positions and cash and collateral balances with the records of
positions and cash and collateral balances that the Clearing House
makes available to Kalshi Participants through Kalshi.
Rule 13.2.7 Swap Data Reporting
A. With the assistance of Kalshi and to the extent required by
Applicable Law, the Clearing House shall report Regulatory Swap Data
for Swaps to a single Swap Data Repository for purposes of complying
with the CEA and applicable CFTC Regulations governing the regulatory
reporting of swaps. The Clearing House shall report all data fields as
required by Appendix A to Part 43 of CFTC Regulations and Appendix 1 to
Part 45 of CFTC Regulations, as applicable, including, but not limited
to, Swap counterparties, Kalshi Binary Contract type, option method,
option premium, LEIs, User IDs, buyer, seller, USIs, unique product
identifiers, underlying asset description, the Swap price or yield,
quantity, maturity or expiration date, the size, settlement method,
execution timestamp, timestamp of submission to the SDR, the CTI Code,
Kalshi Participant Accounts, and whether a Kalshi Participant is a swap
dealer, major swap Kalshi Participant or a financial entity. The
Clearing House shall identify each counterparty to any Kalshi Binary
Contract in all recordkeeping and all Regulatory Swap Data reporting
using a single LEI as prescribed under CFTC Regulation 45.6. As soon as
technologically practicable after execution, the Clearing House also
shall transmit to both Swap counterparties and the Clearing House, the
USI for the Swap created pursuant to CFTC Regulation 45.5 and the
identity of the SDR. For Swaps involving allocation, the Clearing House
will transmit the USI to the Reporting Counterparty and the agent as
required by CFTC Regulation 45.5(d)(1).
B. The Clearing House shall from time to time designate a Swap Data
Repository in respect of one or more Swaps and shall notify Kalshi
Participants of such designation. Currently, the Clearing House reports
all Regulatory Swap Data for all Swaps to ICE Trade Vault.
C. Kalshi Participants that become aware of an error or omission in
Regulatory Swap Data for a Kalshi Binary Contract shall promptly submit
corrected data to the Clearing House. Kalshi Participant shall not
submit or agree to submit a cancellation or correction in order to gain
or extend a delay in public dissemination of accurate Kalshi Binary
Contract transaction and Pricing Data or to otherwise evade the
reporting requirements of Part 43 of CFTC Regulations. Clearing House
will report any errors or omissions in Regulatory Swap Data to the same
SDR to which it originally submitted the Data, as soon as
technologically practicable after discovery of any such error or
omission.
D. The Clearing House sends the Regulatory Swap Data as set forth
in Rule 13.2.7.A to the Swap Data Repository as soon as technologically
practicable after a trade has been cleared, or pursuant to the Clearing
House Rules. Following the transmittal of the Data to the Swap Data
Repository, the Clearing House will make available the Swap Transaction
and Pricing Data to all Kalshi Participants. However, due to
transmission and posting timing of the Swap Data Repository, Kalshi
Participants should be aware that the Kalshi Binary Contract
transaction and Pricing Data may be available on the Clearing House
Platform prior to being publicly disseminated by the Swap Data
Repository.
Rule 13.3 Margin for Kalshi Binary Contracts
Rule 13.3.1 Full Collateralization of Kalshi Binary Contracts Required
Each Kalshi Participant shall deposit funds required to fully
collateralize the Kalshi Binary Contract pursuant to Kalshi Binary
Contract Specifications prior to submission of such Orders to Kalshi,
and in all cases, prior to the submission of the Kalshi Binary Contract
to the Clearing House. Collateral transfers made by a Kalshi
Participant to the Clearing House or by the Clearing House to a Kalshi
Participant are irrevocable and unconditional when effected.
Rule 13.3.2 Collateral
A. Subject to the terms and conditions of Clearing House-approved
margin collateral, the Clearing House will accept from Kalshi
Participants the following as margin collateral: U.S. Dollars. The
Clearing House will value margin collateral as it deems appropriate.
B. Except as otherwise provided herein, Collateral must be and
remain unencumbered. Collateral posted by Kalshi Participants shall be
legally and operationally segregated from (i) the property of the
Clearing House; (ii) the property of other members of the DCO, and
(iii) customer property posted to the Clearing House that is not
associated with Kalshi Binary Contracts (i.e., when a Participant has
been on-boarded separately both with the Company, acting in its
capacity as a DCM and Kalshi, the DCO shall legally and operationally
segregate the property posted by that participant at each separate DCM,
as between the two DCMs).
C. Each Kalshi Participant posting collateral hereby grants to the
Clearing House a continuing first priority security interest in, lien
on, right of setoff against and collateral assignment of all of such
Kalshi Participant's right, title and interest in and to any property
and collateral deposited with the Clearing House by the Kalshi
Participant, whether now owned or existing or hereafter acquired or
arising, including without limitation the following: (i) such Kalshi
Participant Account and all securities entitlements held therein and
all funds held in a Collateral Account and (ii) all proceeds of the
foregoing. A Kalshi Participant shall execute any documents required by
the Clearing House to create, perfect and enforce such lien.
D. Each Kalshi Participant hereby agrees that with respect to any
other financial asset which is or may be credited to the Kalshi
Participant's Kalshi Participant Account, the Clearing House shall have
control pursuant to Section 9-106(a) and 8-106(e) of the UCC and a
perfected security interest pursuant to Section 9-314(a) of the UCC.
E. A Kalshi Participant must transfer the collateral to the
Clearing House or to a Collateral Account and the Clearing House will
hold collateral transferred to the Clearing House on behalf of the
Kalshi Participant. The Clearing House will credit to the Kalshi
Participant the collateral that such Kalshi Participant deposits.
Collateral shall be held by the Clearing House until a Kalshi
Participant submits a withdrawal notification unless otherwise
stipulated by these Rules.
F. The Clearing House will not be responsible for any diminution in
value of collateral that a Kalshi Participant deposits with the
Clearing House. Any fluctuation in markets is the risk of each Kalshi
Participant. Any interest earned on Kalshi Participant collateral may
be retained by the Settlement Bank or the Clearing House.
G. The Clearing House has the right to liquidate a Person's Kalshi
Binary Contracts or non-cash collateral to the extent necessary to
close or transfer Kalshi Binary Contracts, fulfill obligations to the
Clearing House or other Kalshi Participants, and/or to return
collateral in the event that (1) the Person ceases to be a Kalshi
Participant; (2) the Clearing House suspends or terminates the Person's
Trading Privileges or Clearing Privileges; or (3) the Clearing House
determines in its sole discretion that it is necessary to take such
measures.
Rule 13.3.3 Segregation of Kalshi Participant Funds
The Clearing House shall separately account for and segregate from
the Clearing House's proprietary funds all Kalshi Participant funds
used to purchase, margin, guarantee, secure or settle Kalshi Binary
Contracts, and all money accruing to such Kalshi Participant as the
result of Kalshi Binary Contracts so carried in a Collateral Account.
The Clearing House shall maintain a proprietary account that will be
credited with fees or other payments owed to the Clearing House that
are debited from the Collateral Account as a result of Kalshi
Participant trades and settlements of Kalshi Binary Contracts. The
Clearing House shall maintain a record of each Kalshi Participant's
account balances and Kalshi Binary Contracts. The Clearing House shall
not hold, use or dispose of Kalshi Participant funds except as
belonging to Kalshi Participants.
Rule 13.3.4 Concentration Limits
The Clearing House may apply appropriate limitations or charges on
the concentration of assets posted as collateral, as necessary, in
order to ensure its ability to liquidate such assets quickly with
minimal adverse price effects, and may evaluate the appropriateness of
any such concentration limits or charges, on a periodic basis. In the
event that the Clearing House determines in its sole discretion that
the Kalshi Participant's deposit is in material excess of the amount
necessary to collateralize the Kalshi Participant's Kalshi Binary
Contracts, the Clearing House shall have the right to (1) transfer non-
cash collateral, including Digital Currencies, back to a Kalshi
Participant, and Kalshi Participant agrees to accept such transfer, or
(2) take other action the Clearing House deems to be necessary to
safeguard the collateral. The Clearing House shall be entitled to
charge fees related to holding non-cash collateral in material excess
of the amount necessary to collateralize a Kalshi Participant's Kalshi
Binary Contracts.
Rule 13.4 Clearing House Systems and Collateral.
Clearing House shall maintain information systems that track the
amount of available collateral held from time to time by Kalshi
Participants at Clearing House or Clearing House's settlement bank and
make such information available to Kalshi to the same extent it is
available to Clearing House so that Kalshi's automated systems can
apply such information in the relevant systems to perform its
functions.
Rule 13.5 LedgerX API.
In order to provide the Clearing Services, Kalshi shall have and
will maintain in effect an operational interface between its systems
and the relevant systems of Clearing House. Clearing House shall
maintain and support an Application Programming Interface (``Clearing
House API''), to enable the transmission of data as necessary to
provide Clearing Services.
Rule 13.6 Other Rules That Are Applicable To Kalshi Participants.
All Rules in this Chapter 13 apply to the Clearing Services for
Kalshi Binary Contracts.
In addition, the following specific Rules apply to Kalshi
Participants, as if they were Participants, and the Kalshi Binary
Contracts, provided, however that such Rules are applicable only to the
extent that such Rules are related to Clearing Services:
A. Chapter 1 (Definitions)
B. Chapter 2 (Company Governance)
C. Rule 3.1 (Jurisdiction, Applicability of Rules)
D. Rule 3.2 (Participants--Applications, Agreements,
Eligibility Criteria, Classifications and Privileges), provided
that Kalshi Participants are Participants only with regard to
Clearing Services.
E. Rule 3.3 (Participant Obligations), provided that Kalshi
Participants have Participant Obligations only with regard to
Clearing Services.
F. Rule 8.5 (Acts Detrimental to the Welfare or Reputation of
the Company Prohibited) and Rule 8.6 (Misuse of the Platform)
G. Rule 8.19 (Compliance)
H. Chapter 9 (Discipline and Enforcement), but only with
regard to Clearing Services.
I. Chapter 11 (Miscellaneous), including Rule 11.2; Rule
11.3; Rule 11.4; Rule 11.5; Rule 11.6; Rule 11.7; Rule 11.9;
and Rule 11.13, but only with regard to the Clearing Services.
Rule 13.7 Other Rules That Are Not Applicable To Kalshi Participants.
The following rules do not apply to Kalshi Participants, as such
rules or related rules are set forth in the rules of Kalshi:
A. Rule 3.4 (Customer Account Requirements for FCM
Participants)
B. Chapter 4 (Liquidity Providers)
C. Chapter 5 (Method for Trading Company Contracts)
D. Chapter 6 (Clearing and Delivery), but see Rules 13.2, et.
seq.
E. Chapter 7 (Margin), but see Rules 13.3, et. seq.
F. Chapter 8 of this Rulebook does not apply to Kalshi
Participants, except for Rules 8.5, 8.6, and 8.19 as set forth
in Rule 13.6. For the avoidance of doubt, Kalshi is responsible
for all trade practice related activity on its exchange;
Clearing House is not responsible for trade practice
surveillance.
G. Chapter 9, except as to Investigations, Discipline and
Enforcement related to Clearing Services.
H. Chapter 10, except as applied to Clearing Services.
I. Rules 11.8 (Error Trade Policy), 11.10 (Reasonability
Levels), and 11.11 (No Cancellation Ranges), provided, however,
that Clearing House and Kalshi shall coordinate with regard to
Error Trade pursuant to the rules of Kalshi.
J. Chapter 12 does not apply to Kalshi Participants.
Rule 13.8 Liability
For the avoidance of doubt, Clearing House shall not have any
liability for trading issues on Kalshi, as it is only providing
Clearing Services to Kalshi Participants.
Rule 13.9 Limitation of Liability; No Warranties for Clearing Services
A. Except as otherwise set forth in the rules, or due to clearing
house obligations arising from the act or CFTC regulations, including
part 39 of the CFTC regulations, or otherwise under applicable law,
neither the clearing house nor any of its clearing house
representatives, affiliates or affiliates' representatives shall be
liable to any person, or any partner, director, officer, agent,
employee, authorized user or authorized representative thereof, for any
loss, damage, injury, delay, cost, expense, or other liability or
claim, whether in contract, tort or restitution, or under any other
cause of action, suffered by or made against them as a result of their
use of some or all of the clearing services, such persons expressly
agree to accept all liability arising from their use of same as well as
their use of Kalshi.
B. Except as otherwise set forth in these rules or due to clearing
house obligations arising from the act or CFTC regulations, including
part 39 of the CFTC regulations, or otherwise under applicable law,
neither the clearing house nor any of its clearing house
representatives, affiliates or affiliates' representatives shall be
liable to any person, or any partner, director, officer, agent,
employee, authorized user or authorized representative thereof, for any
loss, damage, injury, delay, cost, expense, or other liability or
claim, whether in contract, tort or restitution, or under any other
cause of action, suffered by or made against them, arising from (a) any
failure or non-availability of the Kalshi or the platform; (b) any act
or omission on the part of the clearing house, clearing house
representatives, affiliates or affiliates' representatives including
without limitation a decision of the clearing house to suspend, halt,
or terminate trading or to void, nullify or cancel orders or trades in
whole or in part; (c) any errors or inaccuracies in information
provided by the clearing house, affiliates, the platform or Kalshi; (d)
unauthorized access to or unauthorized use of the platform or Kalshi by
any person; (e) any force majeure event affecting the clearing house or
a Kalshi binary contract; or (f) any loss to any Kalshi participant
resulting from a Kalshi participant's own security or the integrity of
a Kalshi participant's technology or technology systems. This
limitation of liability will apply regardless of whether or not the
clearing house, any clearing house representatives, any clearing house
affiliates or affiliates' representatives (or any designee thereof) was
advised of or otherwise might have anticipated the possibility of such
damages.
C. A person's use of the platform, Kalshi, clearing house property
and any other information and materials provided by the clearing house
is at the person's own risk, and the platform, the clearing house
property and any other information and materials provided by the
clearing house hereunder are provided on an ``as is'' and ``as
available'' basis, without warranties or representations of any kind,
express or implied, by statute, common law or otherwise, including all
implied warranties of merchantability, fitness for a particular purpose
and non-infringement, and any warranties arising from a course of
dealing, usage or trade practice. The clearing house does not guarantee
that (a) the clearing house property or the platform will operate in an
error-free, secure or uninterrupted manner; (b) any information or
materials provided by the clearing house or accessible through the
clearing house property or the platform will be accurate, complete,
reliable, or timely; or (c) the clearing house property or any aspects
of the platform will be free from viruses or other harmful components.
The clearing house shall have no liability for the creditworthiness of
any person or for the acts or omissions of any person utilizing the
platform or any aspect of the clearing house or platform. A person
accessing the clearing house is solely responsible for the security and
integrity of the person's technology. A person's access to the clearing
house may be internet-based and the clearing house has no control over
the internet or a person's connections thereto. Any person accessing
the clearing house acknowledges that the internet, computer networks,
and communications links and devices necessary to enable a person to
access and use the platform are inherently insecure and vulnerable to
attempts at unauthorized entry and that no form of protection can
ensure that a Kalshi participant's data, hardware, or software or the
platform or other clearing house property will be fully secure.
Furthermore, the clearing house shall have no obligation to monitor or
verify any information displayed through the platform.
D. A Kalshi participant that deposits collateral for its benefit
with the clearing house pursuant to these rules shall hold the clearing
house harmless from all liability, losses and damages which may result
from or arise with respect to the care and sale of such collateral
provided that the clearing house has acted reasonably and in accordance
with applicable law under the circumstances. Furthermore, the clearing
house has no responsibility for any act or omission of any third party
service provider that the clearing house has chosen with reasonable
care. The clearing house has no responsibility or liability for any
loss of collateral that results, directly or indirectly, from a breach
to a Kalshi participant's security or electronic systems, including but
not limited to cyber attacks, or from a Kalshi participant's negligence
with respect to a wallet, address or the receipt of collateral upon the
request of a withdrawal, or from a Kalshi participant's deposit,
mistake, error, negligence, or misconduct with respect to any
collateral transfers a Kalshi participant makes or attempts to make to
the clearing house.
E. No Kalshi participant, authorized user, authorized
representative or any other person shall be entitled to commence or
carry on any proceeding against the clearing house, any of its clearing
house representatives, affiliates or affiliates' representatives, in
respect of any act, omission, penalty or remedy imposed pursuant to the
rules of the clearing house. This section shall not restrict the right
of such persons to apply for a review of a direction, order or decision
of the clearing house by a competent regulatory authority.
F. Notwithstanding anything to the contrary herein, in no event
shall the clearing house or any of its clearing house representatives,
affiliates or affiliates' representatives be liable for any indirect,
incidental, consequential, punitive or special damages (whether or not
the clearing house or any such person had been informed or notified or
was aware of the possibility of such damages).
G. Any claim for redress or damages hereunder shall be filed in a
court of competent jurisdiction within one year of the date on which
such claim allegedly arose. Failure to institute litigation within such
time period shall be deemed to be a waiver of such claim and the claim
shall be of no further force or effect. The allocations of liability in
this 13.8 rule represent the agreed and bargained for understanding of
the parties, and each party acknowledges that the other party's rights
and obligations hereunder reflect such allocations. The parties agree
that they will not allege that this remedy fails its essential purpose.
H. The limitations on liability in this Rule 13.8 shall not protect
any party for which there has been a final determination (including
exhaustion of any appeals) by a court or arbitrator to have engaged in
willful or wanton misconduct or fraud. Additionally, the foregoing
limitations on liability of this rule shall be subject to the CEA and
the regulations promulgated thereunder, each as in effect from time to
time.
Rule 13.10 Approved Kalshi Binary Contract Specifications
Chapter 14 Default
Rule 14.1 Defaults
If any of the following events shall occur with respect to any
Participant (regardless of whether any such event is cured by any
guarantor or other third party on behalf of such Participant or
otherwise):
A. If such Participant fails to meet any of its obligations
under its Company Contracts with the Company;
B. If such Participant fails to pay any assessments levied
upon it by the Company when and as provided in these Rules,
including Rule 7.1;
C. If such Participant fails to deposit with, pay to, or
maintain with the Company in full any Initial Margin, Variation
Margin or other sum (not including any dues, fees, or fines)
under or in connection with any Company Contract, when and as
required by or pursuant to the Rules, including Rule 7.1;
D. If such Participant fails to maintain with the Company
sufficient net assets in the Participant's Company account to
satisfy the minimum Maintenance Margin requirements, and the
Company is unable to liquidate the Participant's positions on
its central limit order book, as set forth in Rule 7.1.D;
E. If the Company shall determine that such Participant is
not in compliance with the provisions of Rule 3.2;
F. If such Participant commences a voluntary or a joint case
in bankruptcy or files a voluntary petition or an answer
seeking liquidation, reorganization, arrangement, readjustment
of its debts or any other relief for the benefit of creditors
under any bankruptcy or insolvency act or law of any
jurisdiction, now or hereafter existing, or if such Participant
applies for or consents to the appointment of a custodian,
liquidator, conservator, receiver or trustee (or other similar
official) for all or a substantial part of its property; or if
such Participant makes an assignment for the benefit of
creditors; or if such Participant becomes or admits that it is
insolvent;
G. If an involuntary case is commenced against such
Participant in bankruptcy or an involuntary petition is filed
seeking liquidation, reorganization, arrangement, readjustment
of its debts or any relief for the benefit of creditors under
any bankruptcy or insolvency act or law of any jurisdiction,
now or hereafter existing; or if a custodian, liquidator,
receiver or trustee (or other similar official) of the
Participant is appointed for all or a substantial part of its
property;
H. If a warrant of attachment, execution or similar process
is issued against any substantial part of the property of the
Participant;
I. If the Securities Investor Protection Corporation files an
application for a protective decree with respect to such
Participant;
J. If such Participant holds a short futures contract
position and does not tender a delivery notice on or before
expiration, or fails to make delivery by the time specified in
these Rules; or
K. If such Participant holds a long futures contract position
and does not accept delivery or does not make full payment when
due as specified in these Rules;
then, and in any such event, an ``Event of Default'' has occurred and
the Company may (but is not required to) determine that such
Participant shall be suspended as a Participant.
Rule 14.2 Liquidation or Termination or Suspension of Participant
A. When a Person ceases to be a Participant or is suspended by the
Company, all open Company Contracts carried by the Company for such
Participant shall be liquidated in the manner set forth in Rule 14.3 as
expeditiously as is practicable unless and to the extent that:
a. Such open Company Contracts are transferred by the
Participant and accepted by one or more other Participants,
with the prior consent of the Company, or transferred by the
Company to one or more other Participants pursuant to an
auction or other procedure instituted by the Company;
b. The CRO, consistent with the guidance of the Risk
Management Committee and in consultation therewith, as
appropriate determines that the protection of the financial
integrity of the Company does not require such a liquidation;
or
c. Such liquidation is delayed because of the cessation or
curtailment of trading in such Company Contracts on the Company
DCM.
B. If it is determined pursuant to paragraph (a)(ii) of this Rule
14.2 not to liquidate any open Company Contracts of a Person, or if the
Company is unable for any reason to liquidate such open Company
Contracts in a prompt and orderly fashion, if the Company determines to
delay such liquidation, or if the Company otherwise determines it is
appropriate to do so for the protection of the Company or its other
Participants, the CRO, consistent with the guidance of the Risk
Management Committee and in consultation therewith as appropriate, may
authorize the execution from time to time for the account of the
Company, solely for the purpose of reducing the risk to the Company
resulting from the continued maintenance of such open Participant
Company Contracts, hedging transactions, including, without limitation,
the purchase, grant or sale of Company Contracts or other agreements or
instruments (and the modification or termination of such transactions
from time to time). Such officers may delegate to one or more persons
the authority to determine, within such guidelines as such officers
shall prescribe, the nature and timing of such hedging transactions.
Any costs or expenses, including losses, sustained by the Company in
connection with transactions effected for its account pursuant to this
paragraph shall be charged to such Person (which amounts, if such
Person is a Defaulting Participant, shall constitute part of the
Defaulted Obligation), and any gains, net of any costs and expenses,
shall be credited to such Person.
Rule 14.3 Method of Closing Out Open Company Contracts
A. The open Company Contracts of any Participant which, pursuant to
(i) Rule 7.1 for failing to deposit or maintain the minimum Initial
Margin, Variation Margin, or Maintenance Margin in the Participant's
account at any time or failing to satisfy any Maintenance Margin
requirement, or (ii) Rule 14.2, are required to be liquidated pursuant
to this Rule 14.3, shall be treated in such manner as the Company, in
its discretion, may direct. Without limiting the generality of the
foregoing:
a. Any such liquidation may be effected by directly entering
to the Company DCM's trading platform, limit orders and
marketable limit orders for the purchase, grant, exercise, or
sale of Company Contracts.
b. Company Contracts on opposite sides of the market, having
different expiration months, may be liquidated by spread or
straddle transactions (regardless of whether they are held for
different accounts or different beneficial owners).
c. The Person whose Company Contracts are liquidated shall be
liable to the Company for any commissions, fees, or other
expenses incurred in liquidating such Company Contracts.
B. If the Company determines that it is not practicable or
advisable under the circumstances in light of liquidity, open interest,
market conditions or other relevant factors to liquidate or attempt to
liquidate some or all of a Participant's open Company Contracts
pursuant to Rule 14.3.A, the Company may, at its discretion, transfer a
Participant's Company Contracts to a Backstop Liquidity Provider. The
Backstop Liquidity Provider shall take the open positions from the
Participant's Company Contracts in such quantity as agreed between the
Company and the Backstop Liquidity Providers.
C. Partial Tear-Up (``Secondary BLPs''). If the Company determines
that it is not practicable or advisable under the circumstances in
light of liquidity, open interest, market conditions or other relevant
factors to liquidate or attempt to liquidate some or all of a
Participant's net open Company Contracts pursuant to Rule 14.3.A, the
Company may, at its discretion, implement the partial tear-up of open
positions of Participants not in Default (``Non-Defaulting Tear-Up
Positions'' of ``Secondary BLPs'') that offset the positions of
Participants in Default that have not yet been liquidated (``Defaulted
Positions''). The Company will determine and designate the Non-
Defaulting Tear-Up Positions pursuant to the following methodology:
a. The Company will only designate Non-Defaulting Tear-Up
Positions in the identical Company Contracts (on the opposite
side of the market) and in an aggregate amount equal to that of
the remaining open Company Contract positions.
b. The Company will designate Non-Defaulting Tear-Up
Positions in a particular Company Contract starting with
Participants who hold the largest number of open positions that
offset Defaulted Positions (i.e., the Secondary BLPs).
c. Both Defaulted Positions and offsetting Non-Defaulting
Tear-Up Positions shall be automatically terminated at the
Partial Tear-Up Price, without need for any further stop by any
party to such Company contract.
d. The Partial Tear-Up Price shall be deemed to be the price
that would set the Defaulted Participant's account value to
zero.
D. If the Company determines that it is not practicable or
advisable under the circumstances in light of liquidity, open interest,
market conditions or other relevant factors to liquidate or attempt to
liquidate some or all net open Company Contracts pursuant to Rule
14.3.A, the Company may at its discretion determine to liquidate such
net open Company Contracts pursuant to one or more default auctions
(each a ``Default Auction'') to be conducted by the Company pursuant to
the default auction procedures of the Company as in effect at the
relevant time (``Default Auction Procedures''). The Company may also
determine to liquidate some or all net open Company Contracts pursuant
to one or more auctions not conducted under Default Auction Procedures
in which participation by Participants or others will be voluntary
(``Alternative Auctions''), on such other terms and conditions
consistent with these Rules as are determined by the Company with the
goal of facilitating a successful auction in light of the particular
Company Contracts and positions to be auctioned, the prevailing market
conditions for such Company Contracts and positions (including the
depth, scope and nature of participation in such markets), and such
other factors as the Company determines appropriate. The Company shall
provide reasonable advance notice to qualifying Participants of an
Alternative Auction and the terms and conditions on which it is to be
conducted.
E. If the Company determines that it is not practicable or
advisable under the circumstances in light of liquidity, open interest,
market conditions or other relevant factors to carry out the steps set
forth in this Rule 14.3.A through Rule 14.3.D, the Company's automated
systems will immediately apply guaranty fund resources (the ``Guaranty
Fund''), provided by the Company's own capital, via internal ledger
transactions whenever to address monetary shortfalls resulting from a
default.
F. Only after carrying out the steps set forth in this Rule 14.3.A
through Rule 14.3.E, the Company will, in the following order:
a. Variation Margin Haircuts
i. The Company may notify Participants and provide an
opportunity for Participants to make voluntary
contributions to the DCO.
ii. If the Participant holds excess Variation Margin
in its account(s) with respect to remaining open
Company Contracts following the last settlement cycle
conducted, the DCO shall, in consultation with the Risk
Management Committee, apply haircuts in a proportional
manner to excess Variation Margin so as to contribute
unrealized gains from the Participant's account to the
DCO for the current settlement cycle and each successor
settlement cycle on the current Business Day.
b. Full Tear-Up
i. The Company may notify Participants and provide an
opportunity for Participants to voluntarily agree to
have their positions extinguished by the DCO.
ii. If positions in Company Contracts of a defaulted
Participant remain open (the ``Remaining Open
Positions'') following the last settlement cycle
conducted, the Company shall extinguish the Remaining
Open Positions through a full tear-up process (``Full
Tear-Up'') of all open positions of non-defaulted
Participants in Company Contracts.
c. No persons shall have any claim or right against the
company regarding the timing of liquidation or the manner in
which or the price at which company contracts have been
liquidated pursuant to this Rule 14.3.
d. References in this Rule 14.3 to the liquidation of Company
Contracts shall include liquidation, termination or adjustment
of any related hedging transactions entered into pursuant to
Rule 14.2 (b).
Rule 14.4 Amounts Payable to the Company
Upon completion of the liquidation or transfer of the positions of
a Person pursuant to Rule 14.3, the Company shall be entitled on demand
to recover from such Person all amounts due to the Company for all
losses, liabilities and expenses (including without limitation legal
fees and disbursements and costs and expenses incurred by the Company
in liquidity, borrowing or other necessary actions) incurred by the
Company in connection with such liquidation or transfer.
Rule 14.5 Insolvency of the Company
If at any time the Company: (i) institutes or has instituted
against it a proceeding seeking a judgment of insolvency or bankruptcy
or any other relief under any bankruptcy or insolvency law or other
similar law affecting creditors' rights, or a petition is presented for
its winding up or liquidation, and, in the case of any such proceeding
or petition presented against it, such proceeding or petition results
in a judgment of insolvency or bankruptcy or the entry of an Order for
Relief or the making of an order for the Company winding-up or
liquidation, or (ii) approves resolutions authorizing any proceeding or
petition described in clause (i) above (collectively, a ``Bankruptcy
Event''), all open positions in the Company shall be closed promptly in
accordance with Rule 14.8.
Rule 14.6 Default of the Company
If at any time the Company fails to comply with an undisputed
obligation to pay money or deliver property to a Participant that is
due and owing in connection with a transaction cleared by the Company,
for a period of thirty calendar days from the date that the Company
receives notice from the Participant of the past due obligation (any
such event or a Bankruptcy Event, a ``Company Default''), all open
positions of the Company shall be closed promptly in accordance with
Rule 14.8.
Rule 14.7 Wind-Up of Company Contracts
If at any time the Board determines, by virtue of the number of
Withdrawing Participants or otherwise, that a winding up (offset) of
all outstanding positions at the Company is prudent or desirable or
that the Company's clearing service should be terminated, then all open
positions at the Company shall be closed promptly in accordance with
Rule 14.8.
Rule 14.8 Netting; Offset
At such time as a Participant's positions are closed, the
obligations of the Company to such Participant in respect of the
Participant's proprietary positions, accounts, collateral and guaranty
fund deposits shall be netted against the obligations of such
Participant to the Company and to the Company DCM in respect of its
proprietary positions, accounts, collateral, and any obligations to
guarantee funds without respect to product category. This netting shall
be performed in accordance with the Bankruptcy Code, the CEA and the
regulations promulgated thereunder. All positions open immediately
before being closed in accordance with this Rule shall be valued in
accordance with Rule 14.9.
Rule 14.9 Valuation
A. As promptly as reasonably practicable, but in any event within
thirty days of the: (i) Bankruptcy Event, or (ii) if a Participant
elects to have its open positions closed in a default as described in
Rule 14.6, the date of the election, the Company shall, in a manner
that is consistent with the requirements of the CEA and the regulations
adopted thereunder (including, without limitation) Part 190 of CFTC
Regulations, fix a U.S. dollar amount (the ``Close-out Value'') to be
paid to or received from the Company by each Participant, after taking
into account all applicable netting and offsetting pursuant to Rule
14.8.
B. The Company shall value open positions subject to close-out by
using the market prices for the relevant market (including without
limitation, any over the counter markets) at the moment that the
positions were closed-out, assuming the relevant markets were operating
normally at such moment. If the relevant markets were not operating
normally at such moment, the Company shall exercise its discretion,
acting in good faith and in a commercially reasonable manner, in
adopting methods of valuation to produce reasonably accurate
substitutes for the values that would have been obtained from the
relevant market if it had been operating normally at the moment that
the positions were closed-out.
C. If a default of a Participant has also occurred, and the Company
has not fully liquidated (or transferred) all of the Participant's
positions, the Company shall value open positions subject to close-out
by using the prices that were determined pursuant to the final
settlement cycle that was conducted.
D. In determining a Close-out Value, the Company may consider any
information that it deems relevant. Amounts stated in a currency other
than U.S. Dollars shall be converted to U.S. Dollars at the current
rate of exchange, as determined by the Company. If a Participant has a
negative Close-out Value it shall promptly pay that amount to the
Company.
Item 08_CFTC Request for Comment on FTX Request for Amended DCO
Registration Order
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The Commodity Futures Trading Commission (Commission) has received
inquiries from derivatives clearing organizations (DCO) or potential
DCO applicants seeking to offer clearing of margined products directly
to participants, such that participants would not clear through a
futures commission merchant (FCM) intermediary (non-intermediated
model). LedgerX, LLC d.b.a. FTX US Derivatives (FTX), has submitted a
request to amend its order of registration as a DCO to allow it to
modify its existing non-intermediated model. FTX currently clears
futures and options on futures contracts on a fully collateralized
basis. FTX proposes to clear margined products while continuing with a
non-intermediated model.
------------------------------------------------------------------------
Current DCO clearing models
Fifteen DCOs are currently registered with the Commission. The
majority of DCOs operate under a model that includes three
characteristics that are significant for present purposes: margined
products, intermediated clearing, and mutualized losses.
A margined product is one for which the DCO only collects a portion
of the possible losses the counterparty could incur while holding the
position. Therefore, a DCO that offers margined products is exposed to
the risk that a counterparty will default, leaving the DCO to cover its
obligations to the counterparty holding the other side of the position.
To ensure it has sufficient resources, a DCO employs a margin model to
determine initial margin requirements and maintains financial resources
to be used in a predetermined order (default waterfall) to cover any
losses from a default. Currently four DCOs, including FTX, clear only
non-margined, fully collateralized trades. In a fully collateralized
trade, the DCO holds as collateral 100 percent of the potential losses
a counterparty could incur and the DCO is thus not exposed to the risk
of a counterparty default.
At an intermediated DCO, only FCMs (and potentially some large
proprietary traders) are direct clearing members of the DCO. Most
market participants are customers of an FCM that is a clearing member
and guarantees the customers' obligations to the DCO. This model
provides DCOs with additional protections against a customer default
and relieves customers of some of the operational and financial costs
of being a clearing member. At a non-intermediated DCO, all market
participants are clearing members. Currently, the four DCOs clearing
fully collateralized products operate a non-intermediated model.
Additionally, ICE NGX Canada Inc. (ICE NGX), operates a non-
intermediated model for margined products.\1\ ICE NGX has minimum
financial standards for clearing members that limit membership to
individuals or entities with a high net worth or that own substantial
assets.\2\
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\1\ ICE NGX Clearing and Settlement, https://www.theice.com/ngx/
clearing-settlement (last visited. Feb. 25, 2022)
\2\ ICE NGX New Customer Sign-Up, https://www.theice.com/ngx/new-
customer-sign-up, (last visited Feb. 25, 2022); Specifically, ICE NGX
limits its participants to those with a net worth exceeding CAD
$5,000,000 or total tangible assets exceeding CAD $25,000,000. This
differs from the ``Eligible Contract Participant'' standard contained
in the Commodity Exchange Act, see 7 U.S.C. 1a(18), but is similarly
used to exclude retail participation.
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When a DCO mutualizes losses in its default waterfall, the risk of
loss from a default is shared by all clearing members. Typically, the
default waterfall includes funds from all clearing members in the form
of a guaranty fund that can be used to cover default losses that exceed
the defaulting clearing member's resources. Guaranty fund contributions
are used even when the contributing clearing member is not in default.
These funds are usually required to be on deposit at the DCO before a
default happens. Some DCOs are able to call for additional funds,
through clearing member assessments, to cover losses in excess of the
prefunded resources. Of the DCOs that offer margined products,\3\ only
ICE NGX does not mutualize losses among its clearing members in this
way.\4\ Instead, ICE NGX covers losses in excess of the margin it
collects by holding a portion of its own capital in reserve and
maintaining a line of credit backed by a default insurance policy.\5\
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\3\ Because fully collateralized DCOs do not face the risk of a
clearing member default, there are no losses to mutualize and the
concept does not apply.
\4\ ICE NGX Clearing and Settlement, https://www.theice.com/ngx/
clearing-settlement.
\5\ Id.
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FTX proposal
FTX has requested an amended order to permit it to clear non-
intermediated, margined products. FTX intends to offer its products to
retail participants, and its financial and operational requirements for
participants only require that the participant be able to post the
margin required for a given position.
FTX's model does not contemplate receiving any funds from a
participant not on deposit when the trade is executed. FTX has two
margin requirements for its participants, the initial margin
requirement and the maintenance margin requirement. The initial margin
requirement is the amount of margin the participant must post to open a
position. Maintenance margin is a set minimum percentage of the
notional value of the portfolio that the margin on deposit must exceed.
A participant's margin level is recalculated every 30 seconds as
positions are marked to market, and if the collateral on deposit falls
below the maintenance margin level, FTX's automated system will begin
to liquidate the portfolio. The automated system will liquidate 10
percent of a portfolio at a time by placing offsetting orders on the
central limit order book. Once the liquidation process results in
collateral on deposit that exceeds the maintenance margin requirement,
the liquidation will stop. Because the liquidation is done
automatically and positions are marked to market every 30 seconds,
these liquidations can occur at any time, on a ``24-7'' basis.
Below the maintenance margin threshold, FTX will also set a ``full
liquidation'' threshold based on a set percentage of the notional value
of the positions. If the margin on deposit falls below that threshold,
FTX will liquidate the remainder of the portfolio. To fully liquidate a
portfolio, FTX intends to enter into agreements with backstop liquidity
providers who agree ahead of time to accept a set amount of positions
if a portfolio needs to be completely liquidated, and who will receive
the remaining margin for the position once the full liquidation
threshold is hit. FTX will also fund a guaranty fund with $250 million
of its own capital to cover any losses incurred on positions beyond
those accepted by the backstop liquidity providers. FTX will also use
its guaranty fund to reimburse the backstop liquidity providers when
the participant's margin does not cover the value of the portfolio
acquired by the backstop liquidity providers. FTX does not propose to
mutualize losses among its participants in its default waterfall.
Questions
DCO rules
(1) The Commission's regulations require a DCO to hold enough
financial resources to meet its obligations after a default
by the clearing member creating the largest financial
exposure for the DCO in extreme but plausible market
conditions (Cover-1 standard).\6\ The Cover-1 standard was
calibrated based on the assumption that the DCO will be
intermediated and that the clearing member creating the
largest exposure will represent a significant amount of the
risk a DCO faces. In a non-intermediated model where retail
participants are direct clearing members, the significance
of a default by the single participant presenting the
largest exposure will likely be much smaller.
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\6\ 17 CFR 39.11(a)(1).
(a) What standard, other than Cover-1, would be appropriate to
meet the re-
quirement in Core Principle B that a DCO ``shall have
adequate finan-
cial . . . resources, as determined by the
Commission,'' to meet its re-
sponsibilities in extreme but plausible market
conditions in a non-inter-
mediated model? \7\
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\7\ 7 U.S.C. 7a-1(c)(2)(B).
(b) In addition to characteristics about the products and
specific portfolios,
what metrics or market characteristics (such as the
distribution of partic-
ipant exposures and the number and size of market
makers) should be
taken into consideration when determining whether Core
Principle B has
been adequately satisfied by the DCO's identified
---------------------------------------------------------------------------
resources?
(c) The Cover-1 standard requires financial resources that will
ensure ade-
quate coverage in extreme, but plausible conditions.
Are there scenarios
or types of market events that could have an extreme
effect on a non-
intermediated market with near real-time settlement
that would not have
an extreme effect on intermediated markets?
(d) Are there unique position or risk limits that the Commission
should re-
quire a DCO to impose on its participants in a non-
intermediated model?
(2) Are there tools commonly used after a default for intermediated
markets (e.g., variation margin gains haircutting or
partial tear up) that would not be applicable, or even
counterproductive, in the case of a non-intermediated
model? Are there tools that would remain applicable in a
non-intermediated model, but need adjustments to ensure
effectiveness? If so, what are these and what would be the
necessary revisions?
(3) FTX has proposed to size its financial resources to cover a
default by up to the three clearing members that create the
largest exposure for the DCO. FTX will first calculate its
financial resources based on a Cover-1 standard. If the
Cover-1 clearing member does not represent at least 10% of
the initial margin on deposit, FTX will calculate its
financial resources based on a Cover-2 standard. If the
Cover-2 clearing members do not collectively account for
10% of the initial margin on deposit, then FTX will apply a
Cover-3 standard to size its financial resources.
(a) Does FTX's proposal provide an adequate level of financial
resources to
protect the DCO and its participants in the event of a
default?
(b) Does the likelihood of more frequent, but smaller, defaults
under FTX's
model decrease the effectiveness of a Cover-1 (or -2 or
-3) standard?
(c) FTX does not intend to mutualize the risk of loss following
a default
among all participants, and will fund a default fund
with its own capital.
Does the non-mutualized aspect of the proposed clearing
model present
any unique risks to the DCO?
(4) FTX's proposal limits its participants' financial and
operational obligations to ensuring adequate initial margin
is on deposit prior to entering an order. Does FTX's
approach, when considered in light of its proposed
methodology for liquidating participant portfolios,
adequately protect the integrity of the DCO?
(5) Regulation 39.12(a) also requires a DCO to establish minimum
capital requirements for clearing members. Given that FTX
participants would have no obligations to FTX other than
posting initial margin, does this requirement serve a risk
management purpose in this context?
FCM rules
(6) What potential market structure issues may arise from the
establishment of a non-intermediated model for retail
participants in which transactions are not fully
collateralized? What potential impacts, if any, would these
issues have on FCMs or on existing markets with FCM
intermediation?
(7) Due to the absence of FCMs, the participants' collateral in a
non-intermediated model is not required to be segregated
under section 4d of the CEA.\8\ The orders of registration
for DCOs offering a non-intermediated model require the DCO
to hold funds of its participants as member property, as
that term is defined by the Bankruptcy Code.\9\ Is this
protection sufficient for participants' funds if a DCO
begins to offer margined products?
---------------------------------------------------------------------------
\8\ 7 U.S.C. 6d.
\9\ 11 U.S.C. 761(16).
(8) Commission regulations require FCMs to ensure that customers
receive certain protections when they participate in the
futures markets. Should participants in a non-intermediated
model be afforded the same or similar customer protections?
Which customer protections should the DCO be required to
---------------------------------------------------------------------------
provide to participants?
(a) Should a DCO offering a non-intermediated model be required
to provide
participants with the standard customer risk
disclosures statements con-
tained in Regulation 1.55? If so, should the standard
customer risk disclo-
sure statement be modified in light of the trading and
clearing structure?
(b) For FTX's proposal, are different modifications needed due
to its process
and rules regarding the liquidation of participant
accounts? If so, how
should the standard risk disclosure statement be
revised?
(c) Should a DCO offering a non-intermediated market be required
to make
certain financial information publicly available on its
website consistent
with Regulation 1.55 so that current and prospective
participants have
information regarding the firm? If so, which
information should be pub-
licly available?
(d) Should a DCO offering a non-intermediated model be required
to provide
participants with daily trade confirmations and monthly
account state-
ments in the form and manner specified in Regula-
tion 1.33?
(e) Should a DCO offering a non-intermediated model investment
of partici-
pant funds be subject to the list of permitted
investments under Regula-
tion 1.25?
(f) Should a DCO offering a non-intermediated model be subject
to limita-
tions on the use of participant funds in a manner
consistent with the re-
strictions that Regulation 1.20 places on FCMs?
(g) Should a DCO offering a non-intermediated model be subject
to regu-
latory notice provisions in a manner similar to
Regulation 1.12? If so,
what notice provisions should apply to FTX?
(h) Should a DCO offering a non-intermediated model be subject
to daily re-
porting of the holding of participant funds in a manner
similar to Regula-
tion 1.32?
(9) Should a DCO offering a non-intermediated model be subject to
the capital requirements applied to FCMs in addition to, or
as an alternative to, DCO and DCM financial resources
requirements?
(a) Would the Commission's risk-based capital requirement for
FCMs in
Regulation 1.17 be the most appropriate financial
resources requirement
for a DCO offering a non-intermediated model if it is
approved to be a
DCO that directly clears margined products for retail
participants with-
out an FCM guarantee? \10\
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\10\ 17 CFR 1.17.
(b) If a DCO offering a non-intermediated model is subject to a
risk-based
capital requirement based on the risk margin amount of
its participants'
accounts, should the percentage be higher than eight
percent to reflect
that the DCO will only hold margin for its listed
products and not diverse
---------------------------------------------------------------------------
positions across multiple exchanges?
(c) Regulation 1.17 requires FCMs to maintain a sufficient
amount of
unencumbered liquid assets (after application of
haircuts) that are in the
possession or control of the FCM to cover each dollar
of the FCM's obliga-
tions. If this type of financial resources requirement
is applied to a DCO
offering a non-intermediated model, should that
requirement also con-
sider the composition of the DCO's capital?
(d) For FTX's proposal, if a risk margin amount threshold is
applied to
FTX's minimum financial resources requirement, should
the percentage
of risk margin required be set at a higher percentage
than eight percent,
given that FTX's participants would not be required to
contribute finan-
cial resources to the DCO beyond their required initial
or maintenance
margin amounts?
(10) FTX's current order of registration requires it to comply with
anti-money laundering laws and regulations as if it were a
covered ``financial institution'' under applicable law.\11\
Do FTX's proposed changes present any additional risks that
would require additional anti-money laundering
requirements?
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\11\ Specifically it must comply with the Bank Secrecy Act (31
U.S.C. 5311 et seq.), the International Emergency Economic Powers Act
(50 U.S.C. 1701 et seq.), the Trading with the Enemy Act (50 U.S.C.
4301 et seq.), and the executive orders and regulations issued pursuant
thereto, including the regulations issued by the U.S. Department of the
Treasury and, as applicable, the Commission, as if [FTX) were a covered
``financial institution'' within the meaning of 31 CFR 1010 et seq.
(11) Are there any FCM requirements not already discussed that a DCO
offering a non-intermediated model should be required to
meet?
FTX proposals
(12) When a participant's margin on deposit falls below the
maintenance margin level, FTX is proposing to have an
automated system immediately liquidate the participant's
portfolio to the extent necessary to come into compliance
with margin requirements. FTX's system will check margin
levels, and when necessary liquidate positions, on a 24
hours a day/7 days a week basis.
(a) Does liquidating positions without requesting additional
funds from the
participant present risks or concerns in a regulated
market?
(b) Given the real-time liquidation, are participant protections
necessary be-
yond disclosures regarding the rules and liquidation
process employed by
FTX? If so, what other protections should be required?
(c) Are there risks to a model that is designed to result in
more frequent,
but smaller, defaults than traditionally occur in
cleared markets?
(d) Are there concerns about an automated system's ability to
liquidate a
portfolio fairly and effectively? Are there additional
concerns if multiple
participants are liquidated at the same time, or if the
automated liquida-
tion results in price moves that result in a cascading
effect of participants
becoming under-margined and subject to automated
liquidation?
(e) Are there concerns about whether there will be adequate
liquidity for po-
sition liquidation on a 24 hours a day/7 days a week
basis?
(f) What metrics or data should the Commission use to evaluate
whether
there is likely to be sufficient liquidity across a
broad set of market condi-
tions?
(13) If a portfolio's initial margin falls below the full liquidation
threshold, FTX will liquidate the full portfolio by
assigning the positions to predetermined backstop liquidity
providers.
(a) How should FTX determine the amount of capacity it needs
from its
backstop liquidity providers?
(b) How should FTX determine the level of liquidation risk an
individual
backstop liquidity provider can take on?
(c) What types of standards should FTX have for its backstop
liquidity pro-
viders?
(d) What risks are associated with a system that is dependent on
outside li-
quidity providers in this way?
Market impact
(14) By reducing the number of people/entities involved in a
transaction, does a non-intermediated model have an effect,
positive or negative, on price discovery and efficiency?
(15) By potentially expanding the number of people able to
participate in derivatives markets, does a non-
intermediated model have an effect, positive or negative,
on price discovery and efficiency?
______
Submitted Comment Letter by Hon. David Scott, a Representative in
Congress from Georgia; on Behalf of, and Authored by, Michael J.
Seyfert, President and Chief Executive Officer, National Grain and Feed
Association
May 11, 2022
Christopher Kirkpatrick,
Secretary of the Commission,
U.S. Commodity Futures Trading Commission,
Washington, D.C.
RE: FTX Request for Amended DCO Registration Order
Dear Mr. Kirkpatrick:
The National Grain and Feed Association (NGFA) submits these
comments in response to the Commodity Futures Trading Commission's
(CFTC or Commission) request for input on the FTX US Derivatives (FTX)
proposal to clear margined products while continuing with a non-
intermediated model. Presently, FTX is licensed as a [Derivatives]
Clearing Organization (DCO) by CFTC, but with the stipulation that
trades under its non-intermediated model are 100 percent
collateralized.
The NGFA consists of more than 1,000 grain, feed, processing,
exporting and other grain-related companies operating more than 8,000
facilities. Its membership includes grain elevators; feed and feed
ingredient manufacturers; biofuels companies; grain and oilseed
processors and millers; exporters; livestock and poultry integrators;
and associated firms that provide goods and services to the nation's
grain, feed, and processing industry.
The NGFA commends the CFTC for undertaking a public comment process
and for facilitating a roundtable discussion for a broad group of
industry experts to help in its evaluation of FTX's proposal. Further,
the NGFA appreciates the additional 30 days the CFTC provided to review
and comment on FTX's proposal.
FTX's proposal is for two cryptocurrency products and the NGFA
understands the distinction between the marketplace for cryptocurrency
products versus agricultural products and that FTX's proposal will not
have an immediate impact on agricultural markets. However, if FTX's
proposal is approved, NGFA is concerned that a precedent will have been
set that could allow other exchanges to expand the higher-risk
cryptocurrency trading model to agricultural products, potentially
undermining the well-functioning futures markets that our members rely
on to manage risk. The portions of the FTX proposal that are concerning
to NGFA are the elimination of futures commission merchants (FCM) from
the buying and selling process and the automatic liquidation of
positions when they become under margined.
FCMs enhance risk management by serving the valuable purpose of
monitoring accounts' margin requirements and balances, helping
customers to understand complex market regulations, identifying
potential problems before they pose a risk to the market and its other
participants and by stepping in and paying margin calls when their
customers are slow to pay or default. In addition, NGFA believes FTX
fails to consider the deep regulatory expertise that would be lost
without introducing brokers and FCMs. Further, NGFA is concerned that
FTX avoids the important risk management role that FCMs provide of
temporarily covering margin calls and instead proposes to automatically
liquidate positions that become under margined.
NGFA believes FTX's proposal to auto-liquidate positions has the
potential to undermine risk management protection for commercial
participants. Commercial participants use futures contracts to hedge
against an underlying position and they cannot run the risk of having
their hedges automatically liquidated by an exchange because of fast-
moving price changes that lead to under margining. To avoid the risk of
auto-liquidation, commercial participants would be forced to place
inordinately large sums of money in margin accounts, and this would
significantly increase their hedging costs. Inevitably these costs
would be passed to the customers for whom our members are hedging--
largely North American producers of grains and oilseeds.
The NGFA is concerned the FTX proposal would exacerbate market
stress during periods of extreme disruption, particularly during
systemic events. The NGFA also is not confident market participants
could rely on FTX's proposed liquidation-based, operational model to
continue functioning and providing hedging protection during prolonged
periods of limit up and limit down moves. Furthermore, NGFA is
concerned that volatility from auto-liquidations may lead to additional
volatility in similar products on different exchanges, e.g., auto-
liquidations in an FTX soybean product that could lead to volatility in
CBOT soybean products. NGFA also is worried the proposal could allow
FTX to tear up trades resulting in unnecessary risk exposure and loss
for hedgers.
The robust risk management controls that are required under the
current intermediated mode creates necessary costs to offering futures
contracts. The NGFA is concerned the FTX's proposal may lead other DCOs
to adopt higher-risk models with fewer risk management controls to
remain cost competitive. While the NGFA is in favor finding more
efficient ways to deliver services, we believe the FTX proposal creates
too much risk and we recommend not approving it. If the Commission
decides to continue consideration of the FTX proposal, the NGFA
recommends a formal notice and comment process. Thank you for
considering our comments.
Sincerely,
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Michael J. Seyfert,
President and Chief Executive Officer,
National Grain and Feed Association.
[email protected]
(202) 289-0873
______
Submitted Article by Hon. Ann M. Kuster, a Representative in Congress
from New Hampshire
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
[https://www.forbes.com/sites/billybambrough/2022/05/12/1-trillion-
crypto-meltdown-huge-crash-wipes-out-the-price-of-bitcoin-ethereum-bnb-
xrp-cardano-solana-terras-luna-and-avalanche/?sh=32301e645fd1]
$1 Trillion Crypto Meltdown-Huge Crash Wipes Out The Price Of Bitcoin,
Ethereum, BNB, XRP, Cardano, Solana, Terra's Luna And Avalanche
Forbes Digital Assets \1\
---------------------------------------------------------------------------
\1\ https://www.forbes.com/digital-assets.
Billy Bambrough,\2\ Senior Contributor
---------------------------------------------------------------------------
\2\ https://www.forbes.com/sites/billybambrough/.
---------------------------------------------------------------------------
May 12, 2022,01:50 a.m. EDT
Bitcoin and cryptocurrencies have crashed further overnight,
dropping to levels not seen since the crypto market began surging in
late 2020 and wiping away almost $1 trillion worth of value in a month
as a serious ``ripple'' warning comes into effect.\3\
---------------------------------------------------------------------------
\3\ https://www.forbes.com/sites/billybambrough/2022/05/09/serious-
ripple-warning-after-massive-400-billion-crypto-crash-suddenly-plunges-
bitcoin-ethereum-bnb-xrp-solana-cardano-terras-luna-and-avalanche-into-
free-fall/?sh=7a38e38e1359.
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The bitcoin price has dropped to around $27,000 per bitcoin, down
12% on the last 24 hours, and dragging down the wider crypto market
with other top ten coins ethereum, BNB BNB \4\ ^1.7%, \5\ XRP XRP\6\
^2.1%,\7\ solana, cardano, and avalanche recording even steeper loses.
Ethereum has crashed 22% since this time yesterday, with BNB, XRP,
solana, cardano and avalanche all [losing] between 25% and 33%.
---------------------------------------------------------------------------
\4\ https://www.forbes.com/digital-assets/assets/binance-coin-bnb/.
\5\ https://www.forbes.com/digital-assets/assets/binance-coin-bnb/
\6\ https://www.forbes.com/digital-assets/assets/ripple-xrp/.
\7\ https://www.forbes.com/digital-assets/assets/ripple-xrp/.
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The sell-off comes after the $18 billion algorithmic stablecoin
terraUSD (UST) lost its peg to the U.S. dollar, wiping out the price of
its support coin luna which has now lost almost 99% of its value--and
risks dragging the bitcoin and crypto market even lower.\8\
---------------------------------------------------------------------------
\8\ https://www.forbes.com/sites/billybambrough/2022/05/11/going-
to-zero-panic-is-sweeping-crypto-markets-hitting-the-price-of-bitcoin-
ethereum-bnb-xrp-cardano-solana-terras-luna-and-avalanche/
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
The bitcoin price has crashed to levels not seen since late
2020 with ethereum, BNB, XRP, solana, cardano, avalanche, and
---------------------------------------------------------------------------
Terra's luna tanking. Getty Images.
``Bitcoin continued to slide and closed below $30,000 for the first
time since last July, although the fall did not trigger a large sell
off and the price is trying to recover $30,000 in the Thursday Tokyo
session,'' Yuya Hasegawa, a crypto market analyst at Bitbank, wrote in
an emailed note.
``The price of bitcoin, however, could still fall due to the UST
situation and worsening technical sentiment, but if the U.S. inflation
continues to slow down, the macro environment will likely improve and
the price will bottom out.''
On Wednesday, markets were broadly hit by the latest U.S. inflation
data that showed the consumer price index continued to run hot in
April.
``U.S. CPI was a mixed result: even though it exceeded market
expectations, it showed a sign of slowing down thanks to lower energy
prices,'' wrote Hasegawa.
``The result was not enough to completely wipe out the possibility
of faster monetary tightening, but it was also not enough to strengthen
that possibility as well. The market inclines to sell on that kind of
uncertainty and that is why stocks and crypto fell, but there is also a
hope that inflation in the U.S. will continue to alleviate.''
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
The bitcoin price has lost over 30% of its value in a week,
crashing alongside the price of ethereum, BNB, XRP, solana,
cardano, avalanche and Terra's luna. CoinBase.
The tech-heavy Nasdaq led markets lower on Wednesday, recording a
3.2% decline, with iPhone-maker Apple dethroned as the world's most
valuable publicly traded company by oil major Saudi Aramco.
``The past week has seen turmoil has spread across markets globally
as the reality of hawkish central bank policy and widespread inflation
is realised,'' Will Hamilton, head of trading and research at asset
management and technology company Trovio, said in emailed comments.
``Market drawdowns led by the tech heavy NASDAQ NDAQ \9\ ^2.1% \10\
spread across digital asset markets as investors continue their
withdrawal from risk assets.''
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\9\ https://www.forbes.com/companies/nasdaq.
\10\ https://www.forbes.com/companies/nasdaq.
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______
Supplementary Material Submitted by Hon. Walter L. Lukken, J.D.,
President and Chief Executive Officer, Futures Industry Association
May 11, 2022
Christopher Kirkpatrick,
Secretary,
Commodity Futures Trading Commission,
Washington, D.C.
Dear Mr. Kirkpatrick,
The Futures Industry Association (``FIA'') welcomes the opportunity
afforded by the Commodity Futures Trading Commission (``Commission'' or
``CFTC'') to provide comments on the proposal by FTX US Derivatives
(``FTX'') \1\ to amend its revised order of registration as a
derivatives clearing organization dated September 2, 2020 (the
``Order'') to authorize it to clear margined derivative products for
its participants on a non-intermediated basis (``FTX Proposal'' or the
``Proposal'').
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\1\ Officially LedgerX, LLC d/b/a FTX.
---------------------------------------------------------------------------
FIA has a long history of supporting innovation in the derivatives
industry and we believe the FTX Proposal has prompted a healthy
dialogue within the industry. However, there remain significant open
questions and a lack of critical public information on the model set
forth in the FTX Proposal that make it difficult to analyze fully
whether the Proposal, if adopted, would negatively impact the customer
protections and the clearing process that lie at the heart of our
futures markets.
Specifically, we are unclear whether various key principles of the
derivatives regulatory oversight structure are adequately addressed by
the FTX Proposal. These include principles of segregation of customer
funds, conflicts of interest of those entrusted with market operations
and customer funds, financial resourcing and capitalization of market
operators, appropriately planned and sized default resources, and
safeguards of key market operations. We urge the Commission to seek
additional clarity from FTX on how these key principles are satisfied
and to continue the public dialogue on this important, and possibly
transformative, Proposal.
FTX's Proposal draws on existing features employed in the
derivatives industry today--including margined futures, as well as
frequent, intra-day assessment of clients' margin sufficiency and auto-
liquidation of clients with inadequate margin coverage. However, FTX
would uniquely combine all these features and deploy them in an
integrated designated contract market (``DCM'') and derivatives
clearing organization (``DCO'') without the benefit of futures
commission merchants (``FCMs'') underwriting the risk of clients in any
traditional manner. The combination of these features represents a
material change from FTX's current authorization that permits it to
only clear futures, options on futures and swaps on a fully
collateralized basis. Although the Order does not currently allow
intermediation, we note that FTX's rulebook references the
participation of FCMs, although how they would participate remains
unclear.\2\
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\2\ Under the Order, FTX may ``not permit any FCM participant to
clear on behalf of any customer.'' FTX is permitted to accept FCM
participants to clear on behalf of customers only if FTX first submits
``all rules applicable to customer clearing to the Commission pursuant
to Commission Regulation 40.5 or 40.6.'' In private sessions with
members of FIA, FTX has suggested that FCMs could fund their customers'
accounts at FTX; however, this Proposal may raise issues under CFTC
Rule 1.30 prohibiting the loaning of funds by FCMs to customers on an
unsecured basis.
---------------------------------------------------------------------------
Furthermore, although FTX's existing offering is based on digital
assets and cryptocurrencies for retail traders, the clearing model as
proposed by FTX would permit trading in derivatives on any underlying
asset class transacted by any type of customer, including commercial
hedgers. This requires us to view this Proposal with an eye towards the
potential impact upon the core users of the derivatives markets:
farmers, producers, refiners, pension funds, and the range of
commercial participants who depend upon futures and related products to
hedge price risk in the real economy.
We analyze this unique Proposal recognizing the CFTC's long history
of supporting innovation in the derivatives markets. In fact, the
Commodity Exchange Act (``CEA'') explicitly states in the findings and
purpose \3\ of the Act that the Commission should ``promote responsible
innovation and fair competition'' among market participants. In
promulgating the Commission's purpose and mission, Congress was careful
to ensure innovation was advanced responsibly and did not jeopardize
the integrity or financial stability of the markets or the protections
afforded to customers. The CFTC's mission is structured around certain
core tenets: In addition to the promotion of responsible and fair
competition, the CFTC is charged with the protection of customer
assets, ensuring the financial integrity of transactions, avoidance of
systemic risk, and the prevention of manipulation.\4\ Congress's
insistence on promoting ``fair competition'' also suggests the CFTC
needs to create a level playing field for market participants, which
imposes a uniform regulatory framework upon similar activity with
similar risks. FIA believes that these principles from the CFTC's
mission should drive the Commission's analysis of the Proposal before
us.
---------------------------------------------------------------------------
\3\ In the Findings and Purpose of the CEA, the statute reads: ``It
is the purpose of this chapter to serve the public interests described
in subsection (a) through a system of effective self-regulation of
trading facilities, clearing systems, market participants and market
professionals under the oversight of the Commission. To foster these
public interests, it is further the purpose of this chapter to deter
and prevent price manipulation or any other disruptions to market
integrity; to ensure the financial integrity of all transactions
subject to this chapter and the avoidance of systemic risk; to protect
all market participants from fraudulent or other abusive sales
practices and misuses of customer assets; and to promote responsible
innovation and fair competition among boards of trade, other markets
and market participants.'' 7 U.S.C. 5(b).
\4\ 7 U.S.C. 5(b).
---------------------------------------------------------------------------
This letter further explores some preliminary issues and questions
based upon FIA's review of the material available along with the FTX
Proposal. These issues include:
FTX's proposed elimination of FCMs from the clearing model
does not remove the need for the important customer protections
and risk management functions that FCM clearing members
currently provide. As agents for their customers, FCMs hold
various regulatory responsibilities including vetting customers
on the appropriateness of these leveraged products, policing
clients for money laundering, segregating customer funds,
guaranteeing customer trades, holding significant regulatory
capital against those trades, contributing their own skin in
the game capital to the central counterparty (``CCP'') default
fund, and agreeing to further assessments should the CCP
default fund need replenishment. Many of these responsibilities
have been further strengthened post-financial crisis to provide
important redundancies and checks in the clearing process to
avoid not only a clearinghouse failure, but also losses to the
customer asset pool.
The FTX Proposal indicates that many of these FCM-provided
protections could be satisfied through the DCO core principles
or may no longer be needed due to the model. However, it is not
clear that this hybrid DCO model provides the same level of
customer and market protections through a DCO registration,
given FTX seeks to take on many of the same functions and
activities of FCMs without FCM registration and the detailed
regulatory requirements that ensue from registering.
FIA also believes there needs to be further analysis of the
viability and adequacy of FTX capital as the default resource
and appropriateness of tools (such as variation margin gains
haircutting (VMGH)) proposed in the FTX risk model in extreme
but plausible scenarios, especially for large commercial
participants in other asset classes beyond retail digital
currencies. Given the model relies on continuous liquid markets
that are open 24/7/365, questions remain around the market
impact of the auto-liquidation feature for the close-out of
large positions in less liquid markets that are not
continuously traded. Furthermore, more transparency is needed
on the Backstop Liquidity Providers (``BLPs''), and how BLPs
and other default resources are employed and governed during
market distress while avoiding self-dealing.
We understand that the CFTC Request for Information is a first step
in gaining more details on this unique market structure proposal that
will help address some of the issues we have raised herein. We welcome
FTX's openness to engage with the industry on the merits and substance
of the Proposal. We support FTX's efforts to advance real-time risk
management in clearing and bring greater competition to our markets.
However, we do not believe there is sufficient information and analysis
on the Proposal at this time to conclude that it should be approved by
the Commission and, if so, under what conditions.
I. Relevant Background
A. FIA and its Members
FIA is the leading global trade organization for the futures,
options, and centrally cleared derivatives markets. FIA's mission is to
support open, transparent, and competitive markets; protect and enhance
the integrity of the financial system; and promote high standards of
professional conduct. FIA's membership includes clearing firms,
exchanges, clearinghouses, trading firms and commodities specialists
from more than 48 countries, as well as technology vendors, lawyers and
other professionals serving the industry. FIA's governance consists of
firms that operate as clearing members in global derivatives markets,
including firms registered with the CFTC as FCMs, and this letter
principally represents their views.
Throughout its history, FIA has deployed its collective member
expertise to provide comment and feedback on a range of suggestions and
improvements to the derivatives clearing system, ensuring that the
mission of the CEA is fulfilled. In evaluating innovative offerings, we
bring several decades of experience managing well-functioning markets
for the important risk management and price discovery purposes for
which they were designed. We are pleased to work with the CFTC and with
other regulators regularly to strengthen the clearing system, through
embracing improvements and evolving rules to yield greater efficiencies
for market participants and for customers. We provide these comments in
the same spirit.
B. The FTX Proposal
We understand the FTX Proposal expands upon certain elements of
existing direct clearing models in innovative ways: specifically, the
efforts to incorporate more frequent margin adequacy assessments and to
distribute low-cost or no-cost market data could yield enormous
benefits to participants in our industry. We seek to better understand
how the innovations that FTX has developed for the global cash and
derivatives crypto markets could contribute to the evolution of the
U.S. cleared derivatives market.
FTX's Proposal seeks modification not only to an existing DCO
order, but also to the fundamental paradigm of how the futures industry
has historically operated, by relying primarily on the financial
strength of FCM clearing members to buttress the financial solvency of
clearing organizations who in turn ensure the performance of every
cleared futures contract, option on a futures contract, and swap.
Although the technical changes sought to the Order may not appear
monumental on their face, we strongly believe that the changes could
bring lasting effects, creating new sets of rules for certain
participants, and therefore deserve detailed and thoughtful review.
Moreover, given the transformative changes that could potentially
flow from the proposed amendment to the Order, we believe the CFTC must
also carefully consider the public interest in potentially eliminating
the traditional and essential buffer provided by FCMs in connection
with margined products. This buffer serves not only as an integral part
of the DCO waterfall in intermediated markets, but also as a critical
front line in evaluating customer sophistication; ensuring customer
education and suitability, customer protection, market integrity and
operational efficiencies; and supplementing or enhancing the self-
regulatory roles of DCMs and swap execution facilities. Additionally,
the Commission must carefully assess the adequacy of the current DCO
risk management rules if applied in the context of the proposed
framework. It also must evaluate whether any of its existing rules
should be formally amended prior to approving FTX's proposed margined-
products disintermediated model. Indeed, it may be preferred that the
CFTC consider FTX's Proposal through a formal rulemaking process that
would necessarily include, among other things, a holistic cost-benefit
analysis.
We understand that retail disintermediated models already exist
under the CEA structure but in a more limited way.\5\ We recognize that
the FTX Proposal is innovative in its combination of disintermediation
and margining of derivative products for retail participants, including
how it proposes to substitute an alternative form of waterfall compared
to the historic model backstopped by FCMs, relying on a 24/7/365 real-
time margining system coupled with automatic liquidation of under-
margined accounts, BLPs, and a guaranty fund from FTX's own capital
that apparently will be no less than $250 million. Although FTX's
Proposal draws on many existing features of the derivatives
marketplace,\6\ it focuses solely on those offered by a stand-alone
DCM/DCO and discards the symbiotic relationship that ensures checks and
balances in the clearing system, which would be lost by eliminating
FCMs in FTX's proposed margined products disintermediated model.
---------------------------------------------------------------------------
\5\ For example, Kalshi is also a disintermediated retail model
that does not have FCMs, but it offers only fully-collateralized binary
options. NGX is also a disintermediated model, but its niche market has
requirements that effectively preclude retail participation and is
limited to commercial market participants and other institutional
counterparties that are required to have the capability to make and
take delivery of the underlying energy commodities.
\6\ For example. FCMs frequently examine CCP margin sufficiency and
also can provide quick identification of clearing house errors and
system problems. These functions help keep the entire system in check.
---------------------------------------------------------------------------
Thus, because of the potential disruptive impact of FTX's margined,
disintermediated model on the traditional clearing and customer
protection model, we urge the Commission to carefully consider whether
FTX's Proposal, for itself and for likely subsequent adopters of a
similar model, adequately ensures:
the financial stability of cleared derivatives markets;
the financial integrity of clearinghouses;
that participants of DCOs receive the same level of customer
protection as they currently do as customers at FCMs; and
market integrity.
We have invested significant time in reviewing this potentially
transformative Proposal. We have reviewed the documents made public on
the CFTC website in connection with this solicitation of comments and
have also had several conversations with the FTX team and other market
participants. Particularly from those conversations, we gather that FTX
continues to evolve its offering and seeks feedback on how it can be
improved. We note that the FTX Rulebook continues to list certain
product specifications that would likely be removed upon approval. We
have also focused on other discrepancies between the rulebook made
available by the CFTC and other documents and conversations detailing
the model. We urge the Commission to review the Rulebook carefully to
ensure the model is reflected as described. To that end, we highlight
in this comment letter certain areas that we believe merit specific
focus.
We understand that FTX engaged in conversations with FCMs and
others to broaden the offering to institutional and other clients and
we expect the platform will seek to list--as its Order currently
permits--products outside of the current cryptocurrency and digital
asset space. We, therefore, have analyzed both the current Proposal and
the implications of expansion beyond the current Proposal. We urge the
Commission to also consider the current Proposal with an eye towards a
potential expansion into some or all of the markets under its
regulatory authority. We believe that important commercial markets may
be impacted and those hedging in these markets may be disadvantaged by
certain features of the Proposal. Therefore, we suggest that the CFTC
should not limit its review at this time to only certain users or
participants. We look forward to working with the Commission as it
evaluates the Proposal and its implications.
II. Analysis of the FTX Proposal in the Context of the Existing
Regulatory Architecture
In considering the role that FTX seeks to fulfill by the FTX
Proposal, it is important to note the longstanding regulatory framework
in which it seeks to operate.
A. The Function and Role of Regulated FCMs
Some version of what is now known as an FCM has existed for
centuries. Factor merchants were originally charged with interacting
with customers directly. Since the passage of the Commodity Exchange
Act in 1936, FCMs have been required to segregate customer funds, and
their interactions with customers have been heavily regulated to ensure
various customer and market protections. Although the regulatory
structure has evolved significantly, these core protections remain
entrusted to FCMs.
Currently, FCMs discharge several key functions independent of
those discharged by DCOs. The clearing structure involves different,
interdependent entities, each responsible for executing important and
sometimes intentionally redundant system protections. Today, heavily
regulated FCMs ensure that critical protections are met in the system,
including those relating to customer protection, robust disclosures of
risks, capital resources, and credit and collateral management. FCMs
also provide a valuable buffer to ameliorate operational errors by DCOs
on behalf of their customers.
FCMs are registered with the CFTC and are members of the National
Futures Association (``NFA''). They assume obligations under the CEA,
CFTC and NFA rules, and rules of any exchange or clearinghouse of which
they are a member or on which they facilitate trading. If FCMs maintain
a presence or an activity in a foreign jurisdiction, they may also
incur obligations under other foreign laws and regulations. In the
United States, FCMs are regulated principally by the CFTC and their
designated self-regulatory organization (``DSRO''), as well as
episodically by their other self-regulatory organizations (``SROs'').
Moreover, FCMs are obligated through an express rule (CFTC Reg.
166.3) to ensure all customer accounts are supervised directly and
indirectly through a robust oversight system.
These varied oversight sources contribute to a complex regulatory
framework, including myriad requirements, designed to protect
customers, customer funds, DCOs, and the financial system. We set forth
below a number of these requirements, and highlight certain conceptual
issues with the FTX Proposal to which we would direct CFTC's attention:
Minimum capital requirements. The minimum amount of capital
that an FCM must have readily available is defined by rule, but
constantly fluctuates. Generally, it is the greater of a number
of amounts, including: $1 million; 8% of the margin requirement
(as defined in CFTC Rule 1.17(b)(8)) for positions carried by
the FCMs in customer accounts and noncustomer accounts; or the
highest amount required by the SEC (for combined broker-dealers
and FCMs) or any self-regulatory organization. Moreover, this
defined amount is subject to certain caveats, including capital
``haircuts,'' or reductions, for no or late margin call
satisfaction; and ongoing risk-reducing measures to help ensure
capital is not impaired. FCMs risk-manage customers tick-by-
tick as markets move, and may make margin calls intraday and in
excess of DCM margins as a result, which would then impact
regulatory capital requirement calculations. Due to regular
fluctuations in the capital amounts required and regulatory
penalties associated with capital deficits, FCMs typically
maintain capital equal to at least 110% of the required
amounts. FCMs are required to stand behind and guaranty 100% of
customer trading. These capital requirements ensure that
funding is available to backstop the trading of FCM customers
and house accounts.
Note Regarding FTX Proposal. As it is not registered
as an FCM, FTX is not subject to the same robust capital
requirements. Moreover, given the lack of intermediation in
its model, the FCMs' capital and calculated buffers are not
requirements in the FTX Proposal and, instead, the Proposal
intends to liquidate rather than rely upon FCMs to evaluate
and ensure adequate margin. We question whether the
Proposal is robust enough in this respect.
Guaranty fund. In addition to this capital buffer, the
traditional DCO model allows the DCO to require FCM
contributions to a guaranty fund and allows the DCO to require
additional assessments from FCMs to shore up the guaranty fund
if circumstances require.
Note Regarding FTX Proposal. It is not clear how the
$250 million single-source ``guaranty fund'' that FTX
proposes to satisfy capital shortfalls may be increased, or
will be replenished if drawn down.
Customer funds protection and segregation. At an FCM, funds
belonging to customers must be kept legally segregated from
proprietary assets of the FCM. Customer funds are also
protected by a robust FCM bankruptcy regime under Part 190
which, broadly speaking, ensures that funds of customers of a
bankrupt FCM are directed back to the customer immediately.
They do not pass through the bankruptcy estate and are, by
statute, not subject to any claim by the FCM's creditors.
Note Regarding FTX Proposal. Member funds at a DCO are
not considered to be customer accounts and are not subject
to legal segregation under the CEA or CFTC rules.
Therefore, separation of funds by a DCO between clearing
members and proprietary funds is not the same as legal
segregation. Internal policies may not have the effect of
offering the same level of protection imposed by statute
and rule.
Prohibition of Guaranteeing Against Loss. FCMs are
prohibited by Rule from guaranteeing against or limiting
customer loss (or even making such representations). See CFTC
Reg. .56. In approving this rule, the CFTC sought to avoid
FCMs becoming undercapitalized and to minimize the opportunity
for the misuse of other customers' funds. See 46 FR 62842 (Dec.
29, 1981). This rule then serves to ensure proper
capitalization of the FCMs and to make sure customer funds are
fully segregated.
Note Regarding the FTX Proposal. In Questions 4 and 5
of the RFI, the CFTC indicates its understanding that FTX
limits its participants' financial obligations and that
participants will have no obligations to FTX other than
posting initial margin. We read the FTX Rulebook to
indicate that participants are obligated for losses beyond
posted margin, and consequent attorney fees. See, e.g.,
LedgerX Rulebook Rules 14.2.B and 14.3.B. However, should
FTX continue to maintain that participants have no
obligations to FTX other than posting initial margin, and
its Rulebook is updated to reflect this, we urge the
Commission to consider why the principles of Rule 1.56
would not apply here to prohibit such a practice.
``Know Your Customer'' obligations. Among other things, the
Bank Secrecy Act (``BSA'') requires that ``financial
institutions'' (including FCMs) engage in standardized due
diligence procedures to verify customer identity and assess and
monitor potential, new, and existing customer risk. These Anti-
Money Laundering screening requirements are essential duties
performed by FCMs.
Note Regarding FTX Proposal. FTX has undertaken to
adopt and follow certain BSA-related obligations. We note
that this undertaking to comply, as required by the CFTC,
may not have the same force and effect of being required to
comply under the BSA as a regulated ``financial
institution'' thereunder.\7\ Already, principals of a firm,
charged by the CFTC for allegedly acting as an FCM and not
complying with the BSA, challenged a criminal complaint
brought by the Department of Justice through a Motion to
Dismiss, claiming that its activities were like those of a
disintermediated DCO, and thus it had no BSA
obligations.\8\
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\7\ That is, in addition to the myriad regulatory requirements that
FCMs are subject to, their status as a ``financial institution'' under
the BSA requires them to be subject to the BSA regulations, with severe
penalties for violations thereof.
\8\ See Memorandum of Law in Support of Defendants' Motion to
Dismiss, United States of America v. Arthur Hayes, Benjamin Delo,
Samuel Reed and Gregory Dwyer, (USDC, SDNY (JGK)), filed December 21,
2021.
FCM customer-related obligations. Registered FCMs must
comply with numerous other obligations designed to protect
customers and the markets in which they operate. These include,
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but are not limited to:
b Firm-specific disclosures with ongoing obligations to refresh and
update information to enable members of the investing
public to select the FCM with which they do business.
b Privacy notices that FCMs, as ``financial institutions,'' must
provide.
b Examination, registration, and disclosure requirements for
public-facing FCM associates, including Associated Persons
and Branch Office Managers.
b Ethics examinations and other obligations for public-facing FCM
associates who engage with customers.
b As noted previously, significant requirements (which the CFTC has
applied broadly) to adequately supervise all persons
directly or indirectly handling customer interest accounts,
with significant penalties for failure to do so. Adequate
supervision includes the robust monitoring of customer
accounts to help ensure market integrity, compliance with
position limits, and other requirements imposed upon
customers.
Note Regarding FTX Proposal. Arguably, these
important protections may
not apply to DCMs/DCOs. That is, participants and members
of these orga-
nizations are not traditionally viewed as ``customers''
with all the obliga-
tions that such a designation entails vis a vis an FCM.
Other FCM obligations. FCMs are subject to other
requirements that are designed to ensure market integrity. FCMs
must comply with significant requirements to prepare, maintain,
and retain appropriate books and records concerning their
business, including recordings of certain telephone
conversations. They are required to file daily segregation
reports, periodic financial and risk reports, and a CCO Annual
Report and certification.
Note Regarding FTX Proposal. Attention should be given
to ensure that a DCO functioning like an FCM is subject to
similar recordkeeping and certification requirements.
NFA Membership. FCMs are required to be members of the NFA,
be subject to NFA audit, and comply with numerous NFA rules
designed for customer protection. Their public-facing employees
must also be members and pass requisite examinations, be
fingerprinted and remain subject to background checks.
Note Regarding FTX Proposal. Disintermediated DCMs and
DCOs do not have an entity in their system required to be a
member of the NFA. Accordingly, these vetting and diligence
requirements are never applied as they are to customer-
facing FCM employees. Therefore, attention should be given
to the role that NFA plays, and whether adequate assurances
otherwise exist in the absence of NFA membership.
In short, this wide array of rules underscores the FCM's important
role as ``gatekeeper'' and one that supports market stability. We
review the FTX Proposal with the understanding that the role of FCMs,
and the consequent protective function entrusted to the FCM by the CEA
and its regulations, are key to the proper functioning of the clearing
system.
B. The Interdependent Existing Regulatory Framework Applicable to the
Derivatives Clearing Business
As previously noted, the CFTC's rules were written around a
framework that separates key functions into different entities, or
registration categories. Merely collapsing various entities into a
single entity does not necessarily mean that the rules applicable to
the surviving entity satisfy the wide range of protections embedded
throughout the preexisting, multi-entity structure. The existing FTX
DCO is certainly subject to numerous regulatory requirements. Having
said that, the CFTC rule set governing DCOs and DCMs was written with
the understanding that an FCM would inevitably discharge certain key
functions within the DCO/DCM framework. This presupposition means that,
even if a DCM observes all its requirements, it cannot be said that all
necessary protections, presumably to be fulfilled by an FCM, will be in
place. By way of example, the DCM rules (CFTC Reg. 38.1101) require
that a DCM that is also a DCO have ``adequate financial resources.''
However, this requirement does not include a methodology to determine
what constitutes ``adequate financial resources'' for a DCM and a DCO
that would also maintain responsibilities typically discharged by an
FCM. Moreover, FCMs supplement many protections today provided by DCMs
and DCOs; they also act as a buffer for customers if DCMs and DCOs
experience certain operational errors (e.g., by recognizing application
of an incorrect risk array in computing firm margin requirements).
DCOs and DCMs frequently rely upon customer protection rules
applicable to, and discharged by, FCMs. Indeed, a primary purpose of
the FCM in the clearing system is to provide critical protections to
customers. As the entities licensed to solicit directly from customers,
FCMs are best positioned to provide a range of protections that are
tailored to the customer in many instances. In addition to governing
conduct involving direct interactions with the customers, FCM
regulatory requirements are designed to protect the customer further
from fraud, systemic failures, and malfeasance. To give just one
example, NFA Rule 2-29 addresses FCM communications with the public and
FCM promotional materials. The rule provides specific limitations on
what FCMs may say about their business, about the future prospects of
the business, or what could happen to customer funds designated for
trading. These rules enhance customer awareness of the risks of trading
and the limits of the markets. Such rules do not apply to a DCM or a
DCO. In the absence of an FCM in the model set forth in the FTX
Proposal, we urge the Commission to carefully analyze whether all of
these important protections can be accommodated.
Today, the CFTC and DCMs expect FCM members to monitor trading and
other activity by their customers, and routinely bring disciplinary
actions against them when they believe they have not sufficiently
safeguarded against improper conduct under certain facts and
circumstances.\9\ FCMs are also subject to guidance regarding the
handling of customer accounts and other financial matters by the Joint
Audit Committee (``JAC''). Exchanges, such as CME Group, impose similar
supervisory obligations upon their clearing members.\10\
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\9\ See, e.g., In the Matter of Advantage Futures LLC, et al., CFTC
Docket No. 16-29 (2016).
\10\ See, e.g., CME Rule 950 (a clearing member must ``adopt and
enforce written supervisory procedures pursuant to which it will
supervise in accordance with the requirements of [CME] Rules and the
CEA and CFTC Regulations thereunder, each customer's account(s)'').
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Given the presumed interdependence of entities functioning within
the clearing ecosystem, we urge the Commission to review carefully the
protections presumed and subsumed within the existing clearing model
and to ensure that these protections are also incorporated, where
necessary, into the proposed FTX model.
C. Unique DCO Risk Issues Raised by the FTX Proposal
We note that certain existing DCOs already operate without an FCM
structure. Having said that, they are different from the FTX Proposal
in key respects--most particularly, with regard to FTX's unique
combination of retail participation, the auto-liquidation mechanism and
leveraged margin trading. Thus, we submit that the FTX Proposal
requires a thorough analysis by the Commission, to the extent that the
model might lack and thereby do away with certain of the protective
elements built into the system. At a minimum, we submit that any
approved model should provide at least the status quo level of customer
protections and market integrity protections as exist in the
traditional clearing model, and may very well warrant a heightened
level of protections, given both its unique market design and the
likely participants in the market.\11\ We take this opportunity to
consider some of these unique risk management features of the FTX
Proposal and the FTX business model, to identify certain issues that we
believe merit closer consideration.
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\11\ As noted by Chair (then-Commissioner) Behnam at the March 11,
2021 GMAC meeting: ``But certainly, as a general matter, whether it is
clearinghouse risk or margin issues, and certainly today's discussion
around retail trading, these are the most ripe and important issues
that I think we all care about in our market.'' See https://
www.cftc.gov/sites/default/files/2021/04/1618338631/
gmac_transcript031121.pdf.
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1. Rulebook and Other Document Descriptions of FTX Default Procedures
Chapter 14 of the LedgerX Rulebook captures many of the unique
features of the FTX model in its description of default procedures.
First, Rules 14.1 and 14.2 define a default on the platform and
authorize FTX to liquidate, terminate or suspend the open contracts of
a participant meeting that definition of default. The Rule provides for
liquidation except in certain cases, such as a participant-to-
participant transfer, FTX auction, or if the Risk Management Committee
determines that liquidation is not required to protect the financial
integrity of FTX. It is not clear from the Rulebook or from discussions
with FTX under what circumstances a liquidation would be avoided for
these reasons. We note that in the event the company decides not to
liquidate a position, it is permitted to enter into hedging
transactions to reduce the risk to FTX of not liquidating.
Second, should the liquidation determination be made under 14.2,
FTX has, at its discretion, several options to close out the position
pursuant to Rule 14.3. As a first step, Rule 14.3.A permits the company
to liquidate into the central limit order book. However, if the company
determines that it is not ``practicable or advisable under the
circumstances in light of liquidity, open interest, market conditions,
or other relevant factors'' three options are available for close out:
transfer of the positions to a BLP (Rule 14.3.B)
partial tear up of positions of participants not in default,
also referred to as the Secondary BLP (Rule 14.3.C)
auctions pursuant to default auction rules in place at the
time, or pursuant to other ``alternative auction'' rules
determined appropriate by FTX.
The choice among these options appears to be entirely up to FTX.
Only if and after these four options (auto-liquidation and then the
other three back up choices of transfer, partial tear up or auction)
are determined to be ``not practicable or advisable under the
circumstances in light of liquidity, open interest, market conditions
or other relevant factors,'' can the company turn to the default
resource of the FTX guaranty fund. (Rule 14.3.E). After exhausting the
guaranty fund, FTX may elect, in the following order, Variation Gains
Margin Haircuts and Full Tear Up. Finally, the rules make clear that
regardless of which method of closeout is utilized, the company may
demand from the closed-out customer full payment for all losses,
liabilities and expenses incurred in these steps. (Rule 14.4).\12\
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\12\ As noted on pages 8-9 above, the CFTC indicates in RFI
questions 4 and 5 that it understands FTX to be limiting participant
financial obligations to margin posted. The Rulebook indicates, on the
contrary, that participants are obligated for losses beyond posted
margin, and consequent attorney fees. See, e.g., LedgerX Rulebook Rule
14.2.B and Rule 14.3.B.
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FTX has also filed with the CFTC an ``Exhibit G: Default Rules and
Procedures.'' The materials do not appear completely aligned with these
Rule 14 steps. For example, Chapter 14 includes the use of auctions in
the default process but Exhibit G does not. We assume the Rulebook will
be updated to reflect the statements in Exhibit G and until we have
clarity on the sequence of default procedures, it is difficult for us
to fully assess the adequacy of the default process.
Nevertheless, we provide a few preliminary comments on the
Rulebook. First, one of the key purported benefits of the FTX Proposal
is that ``FTX does not propose to mutualize losses among its
participants in its default waterfall.'' (See CFTC Request for Comment
on FTX Request for Amended DCO Registration Order, March 10, 2022, at
2) (emphasis added). However, Variation Margin Gains Haircutting
(``VMGH'') is listed as a default resource in both DCO Exhibit G and
Rule 14.3.F. This tool conflicts with FTX's assertion that it does not
mutualize loss, insofar as VMGH is a form of loss mutualization.
Further, we question the appropriateness of a tool like VMGH in the
context of clearing for less sophisticated retail customers, who may
not comprehend how it operates. Although traditional CCP rulebooks may
include these tools, they reserve VMGH as the final step in recovery
and there are guard rails around the use of these tools. For example,
when VMGH is permitted, it is subject to regulatory oversight and
strict limitations upon both the duration it may be used and/or the
maximum dollar value of losses that can be imposed.
Furthermore, the use of Partial Tear Ups in Rule 14.3.C--also a
loss mutualization tool--is ahead of the use of the FTX Guaranty Fund
in the waterfall.\13\ That non-defaulting participants could be subject
to Partial Tear Ups does not seem compatible with the FTX assertion
that it does not mutualize losses. At the very least, participants
should be made aware and rules on application of this tool should be
further disclosed. Moreover, it is unclear whether FTX expects retail
users to participate in the auctions, and whether such participants
would require different procedures for a successful auction.
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\13\ One possible reading of Rule 14.3.C is that only Secondary
Backstop Liquidity Providers, presumably parties who have executed
Liquidity Provider Agreements, would be eligible non-defaulting
participants for partial tear up. We submit that this is not clear in
the rules and not referred to in Exhibit G. If this is the way the
tool's use is envisioned, the Rulebook and Exhibit G should be updated
to reflect that.
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Given the business model and category of market participants
targeted by FTX, we would strongly urge the CFTC to consider whether
these tools are appropriately placed in the waterfall and whether they
are appropriate at all for this model.
2. Auto-Liquidation
FTX rests its model on the risk management benefits of its auto-
liquidation feature. At the outset, we note that the FTX Rulebook makes
clear that auto-liquidation is only one of the options available to FTX
in dealing with a customer with insufficient margin. As detailed above,
Rule 14.2 would permit FTX to decide whether to conduct an auction, or
to maintain defaulted accounts on its own book and to enter into
additional transactions on its platform to hedge its own risk in those
positions. Given that FTX may make its own determination as to whether
or not to liquidate, we urge the Commission to seek more information on
threshold circumstances that could result in risk being held by FTX
itself.
Should FTX decide to proceed with a liquidation, FTX proposes to
auto-liquidate the participant if there is insufficient Initial,
Maintenance or Variation Margin. As we know, multiple defaults often
happen during volatile markets. Although FTX has asserted that its
offshore entities has successfully handled multiple defaults on
volatile days, the model has not been tested with large institutional
market participants.
The notion of auto-liquidation presumes a willing and able
counterparty and thereby itself depends on sufficient liquidity. Even
if an auto-liquidation model can operate effectively, it is not clear
that the ten percent auto-liquidation model would be appropriate in all
market liquidity scenarios. Thus, we submit that FTX should justify the
decision to liquidate ten percent of a position automatically, as
opposed to some other number based on market conditions.
As the Commission is well aware, there are both products and
certain time periods when liquidity ebbs, sometimes significantly.
Volatility in the markets can also exacerbate liquidity crunches. The
24/7/365 nature of the FTX model only heightens these concerns, as this
will increase the probability that auto-liquidation will be triggered
at times of low liquidity (such as nights, weekends and extended
holiday periods). Amplifying these concerns about liquidity are the
potential limitations on the ability to ``top up'' margin in accounts
during off hours. Meeting a margin call in fiat currency requires banks
to be open, notwithstanding that the market is open 24/7. This is not
the world we live in today.
Furthermore, during market turbulence, immediately liquidating a
large participant during cascading markets can be pro-cyclical, add to
market volatility and may cause further defaults. In other words, a
directional market subject to an auto-liquidation model has a tendency
to be very pro-cyclical and, thereby, this model could exacerbate
financial instability in a time of heightened market volatility. This
impact could very well be worse in the retail context, in which retail
participants often move in packs and the effect of liquidating hundreds
of retail accounts at once could be enormous. For all these reasons
(and others), an FCM and a DCO have a duty to consider market
conditions before liquidations. The current clearing model requires
establishment of a clearly defined default management strategy with
provisions for hedging and portfolio splitting prior to liquidation to
ensure that close-out happens at the best possible price. Expert
judgment is relied upon with the default management group or DCO risk
management staff in some cases implicitly evaluating market conditions
prior to taking action to liquidate positions. This second line of
defense may be even more important in the context of crypto products,
which have shown significant intraday and overnight volatility. This
would impact size of losses depending on when positions are closed. In
contrast, in an objective, algo-driven automatic liquidating model, no
such consideration can be given. Without this subjective requirement, a
wholly automated function could in fact exacerbate market turbulence
and create systemic risk.
Moreover, FTX's model--which marks-to-market every 30 seconds and
uses real-time auto-liquidation if a participant does not maintain
sufficient margin--raises additional questions regarding possible
unintended consequences. FIA recognizes that maintaining required
margin on deposit with FTX along with an auto-liquidation mechanism can
limit FTX's exposure to client default risk, but submits that this
structure interjects different risks that should be fully evaluated to
ensure that market integrity is not compromised. For example, does
auto-liquidation pose different or additional risks for market
manipulation that are not present outside of this proposed model? Given
the retail participation in the digital assets markets, we suggest that
the CFTC should consider whether market manipulators will be able to
trade on directional information affecting such assets and the expected
retail reaction. Recognizing that other intermediated exchanges or
those that allow only fully collateralized contracts currently list
cryptocurrency futures, we suggest further that the CFTC should
consider whether approving this disintermediated, margined model might
create unwanted arbitrage, information asymmetry, market manipulation
or instability scenarios with respect to those other markets.
For all these reasons and others, we submit that the CFTC should
consider whether FTX's proposed auto-liquidation feature would
potentially cause market disruption not found in other models. SROs
have sanctioned members for issues raised by similar auto-liquidation
models:
Saxo Bank: https://www.cmegroup.com/notices/disciplinary/
2017/03/CME-15-0158-BC-SAXO-BANK-AS.html
Interactive Brokers: https://www.cmegroup.com/notices/
disciplinary/2020/09/CME-15-0303-BC-INTERACTIVE-BROKERS-
LLC.html
We suggest that FTX explain how its model can be distinguished from
these cases, and how it would enforce its own rules prohibiting conduct
by participants that constitutes a ``disruptive trading practice.'' See
Rule 8.3(N).
We also note that the model relies heavily upon the execution of
algorithms. From the information provided, we are unclear what controls
exist with respect to automated algorithms integral to the risk
management program of the FTX Proposal. Given the algorithm's
importance, we believe the CFTC should provide guidelines and resources
to assess its dependability.\14\
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\14\ For example, after years of market review and debate on how
best to address risks associates with electronic trading, the CFTC
adopted CFTC Rule 38.251 as part of its Electronic Trading Risk
Principles, which requires DCMs to implement rules to prevent, detect
and mitigate market disruptions associated with market participants'
electronic trading as well as to subject all electronic orders to the
exchange's pre-trade risk controls. This rule, and the intense market
discussions leading up to it, did not contemplate where, as proposed by
FTX, the electronic trading is being done by the DCO's own auto
liquidator.
---------------------------------------------------------------------------
The efficacy of FTX's risk management framework hinges on its
ability to automatically liquidate under-margined customer positions.
We believe that the CFTC should consider whether the auto-liquidation
feature warrants additional disclosures so that participants,
particularly retail participants, understand the risks involved with
participating at FTX as a member. We submit that, among others, the
risks about which member/retail participants should be made clearly
aware are:
Upsetting planned risk management, hedging, or arbitrages if
positions are closed out unexpectedly and without warning.
Effect of delay in providing additional maintenance margin
because of banking closures (normal weekend, or even extended
holiday period considering the 24/7/365 nature of operations,
for example) or delays in transmittal, including those not the
fault of the customer.
Effect of failure to pay maintenance margin.
Possible adverse results of a forced auto-liquidation,
including responsibility for any losses resulting from auto-
liquidation, and liability for resultant legal fees.
Possible irreversible auto-liquidation prompted by an FTX
operational error caused either by FTX or due to a fat finger
error entered by a market participant.
3. Liquidity Providers
FTX also contemplates the use of a BLP Program to provide
flexibility to close out customer positions that are under-margined.
The FTX Rulebook defines a Liquidity Provider as one who enters the
Liquidity Provider Agreement, a document which is not provided for
review with this RFI. Rule 4.3 makes clear that Liquidity Providers may
receive incentives and benefits, but it is not clear what the Liquidity
Provider is obligated to do in exchange for those benefits.
The Close-Out Rules provide further explanation about the Liquidity
Providers and divide them into two types: ``Backstop Liquidity
Providers'' and ``Secondary Backstop Liquidity Providers.'' It appears
from the Rulebook that both types of Liquidity Providers will enter
into a participant agreement. We gather generally from the rules that
BLPs are those that accept customer defaulted positions through
transfer and Secondary BLPs are those that agree to partial tear up of
offsetting positions.\15\
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\15\ However, it is not clear to us from the Rulebook that Partial
Tear Ups would be limited to those parties who have signed a Liquidity
Provider Agreement. We note that Partial Tear Ups are used in Rule
14.3.C with reference to Secondary Backstop Liquidity Providers,
suggesting possibly that only those parties would be eligible for a
non-defaulting position tear up; but the rule does not explicitly limit
the tool to those parties.
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We lack information we consider necessary to an adequate assessment
of the effectiveness of the Liquidity Provider program. The terms of
the agreements with the BLPs are highly relevant to an effective
determination of key matters, including: the conditions under which
these back-up providers would act; the volumes that they would be able
to support and whether there are explicit limits on size of positions
that they would liquidate; and the price at which liquidation will be
undertaken, i.e., whether it is a price determined by the BLPs based on
their perception of market conditions and positions to be absorbed, or
whether it would be a price determined by FTX itself and the incentives
in place to ensure the BLPs would act in the best interests of the
market.
Furthermore, neither Chapter 4 nor Chapter 14 of the FTX Rulebook
seem to adequately address the process for assigning positions to BLPs.
At the very least, we would expect transparency on the minimum number
of BLPs necessary; the minimum requirements to become a BLP; and
whether the BLPs are obligated to accept positions. Furthermore, it is
not clear from the public documents how FTX will ensure at all times
that BLPs are available and have committed resources sufficient to
support the model. Additionally, BLPs are allotted positions based on
margin on deposit. What ensures that BLPs won't remove margin or reduce
it just during the time the DCOs may need to assign positions of a
defaulted member, when liquidity is needed most? Further, while it
appears that FTX may require the BLPs to accept trades at a haircut to
current market price, this raises the concern that liquidation of large
volumes at a discount to the market price could itself lead to a
further downward spiral of prices such that the liquidation process
would effectively only stop when the participant is fully liquidated.
Finally, we understand that at least one entity owned by FTX would
participate in the Liquidity Provider Program. The Commission should
carefully consider whether to permit an entity owned by FTX to serve as
a BLP, which could create the potential for wrong-way risk and
conflicts of interest.
We lack the clarity on the Liquidity Provider Program to evaluate
whether it can mitigate the shortcomings of an algorithmically-driven
auto-liquidation program. We urge the Commission to seek additional
information on the use of the Liquidity Provider Program before it
concludes that the close-out procedures envisioned sufficiently protect
customers and the market itself.
4. Financial Integrity of the FTX Clearinghouse
As noted above, critical to the functioning of futures markets is
the financial integrity of the clearing house. Most DCOs have their own
financial requirements and, when a clearinghouse processes margined
products, the DCO's capital is ``backstopped'' in waterfalls by its FCM
clearing members. These backstops may include guaranty fund
contributions and special assessments levied upon the FCMs. These
financial resources are designed to comply with the Principles for
Financial Market Infrastructure, (``PFMIs'') jointly issued by the
Committee on Payments and Market Infrastructure (``CPMI'') and the
International Organization of Securities Commissions (``IOSCO''), which
require (in relevant part) ``rules and procedures [ensuring] that FMI's
. . . replenish any financial resources that the FMI may employ during
a stress event, so that the FMI can continue to operate in a safe and
sound manner.'' See Principles for Financial Market Infrastructure,
April 2012 at 37, Principle 4, Key Consideration 7.
In its Proposal, FTX submits that its combination of automatic
liquidations, BLPs, conservative margin requirements (for the initial
referenced products, derivatives based on BTC and ETH), and a $250
million minimum self-funded guaranty fund provides an adequate and
appropriate substitute for the financial requirements set forth in the
traditional clearing model (See CFTC Reg. 39.11). The CFTC either
should disclose details about this to the public, or conduct its own
analysis to satisfy itself that the relevant math supports this
proposition. We submit that the chart and accompanying explanation in
the February 8, 2022 FTX letter to DCR Director Clark Hutchison and the
April 15, 2022 article posted on FTX's website, https://
www.ftxpolicy.com, entitled ``Understanding FTX's Guaranty Fund
Sizing'' (``FTX Letter'') does not provide sufficient quantitative
analysis, including assumptions behind such analysis, to verify the
proposition.
Although FTX, in the FTX Letter, suggests that it will increase its
guaranty fund over time, there is no requirement that it do so, and the
formula pursuant to which this would presumably occur is not clear.
Thus, while FTX has stated privately it will restore its guaranty fund
if it decreases below $250 million, we ask the Commission to consider
how FTX's commitments can be mandated, if at all, by the CFTC, whether
FTX should be required to maintain segregated resources to support such
replenishment, and if so, how large these segregated resources should
be. Furthermore, the guaranty fund is placed ahead of VMGH, a loss
mutualization tool and, finally, full tear up, in the default
waterfall. In light of the representations made by FTX that it has
funds sufficient to support a clearing model without loss mutualization
tools, we query why the guaranty fund is limited to $250 million. We
urge the Commission to carefully consider the appropriate levels of
capitalizations for FTX to ensure it has the ability to continue to
operate in a safe and sound manner.
We also seek clarity on the capitalization for the higher risk of
non-default losses (``NDLs'') at FTX. The algorithmic manner in which
positions are proposed to be liquidated suggests high technological
reliance and potential vulnerability to cyber-attacks. It is therefore
imperative that FTX provides greater disclosures around the framework
to manage technology and cyber risk and its approach to mitigating risk
related to NDLs.\16\ More broadly, the framework suggests a need for
significantly higher levels of CCP capitalization levels to address
default and non-default losses--in the absence of robust capitalization
levels, there is a significantly higher risk that FTX may run out of
resources. We would urge the CFTC to require a meaningful capital
framework that aligns incentives and ensures adequate capitalization to
address all aspects of both default and non-default losses.
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\16\ FTX is well aware of the potential of crypto trading platforms
to be hacked. In August 2021, Liquid Group Inc. (``Liquid''), a crypto
trading platform, announced that FTX Trading Ltd. ([``]FTX Trading'')
would provide $120 million in debt financing after Liquid was reported
to have sustained a $100 million hack; this deal apparently closed in
April 2021: https://blog.liquid.com/liquid-ftx-dept-financing. In
February 2022, Liquid announced FTX Trading would acquire Liquid and
all of its operating subsidiaries: https://blog.liquid.com/acquisition-
liquid-ftx.
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5. Traditional DCO Default Resources
The proposed model is distinctly different in its scoping of
default resources than the current DCO models that exist. Accordingly,
analysis of the default resources requires more than just a
straightforward calculation, and instead merits close consideration of
the size and the purpose of resources available. As compared to
currently existing DCO models, the proposed model is more concentrated
and built on certain assumptions that are thus far untested in the
United States. We urge the Commission to evaluate whether the proposed
model includes the necessary protective layers for margined derivatives
contracts. More broadly, we note that the PMFIs require that ``[a]n FMI
should establish explicit rules and procedures that address fully any
credit losses it may face as a result of any individual or combined
default among its participants with respect to any of their obligations
to the FMI.'' Principles for Financial Market Infrastructure, April
2012 at 37, Principle 4, Key Consideration 7 (emphasis added).
Therefore, the standard for default resources should not just be to
check for a sufficient default fund in comparison to the traditional
model, but should holistically evaluate the adequacy of resources to
cover tail risk.
Whereas FTX is proposing to fund all of the available default
resources itself, existing DCOs rely on several independent and diverse
sources. Consistent with the regulatory approach of distributed
responsibility, the default resources are also built on a framework of
distributed responsibility for loss absorption and deflection. We urge
the Commission to fully consider the implications of the concentration
risk created by FTX's unique approach.
Traditional DCOs include several layers of resources, namely,
contributions to the default fund and limited assessments for
replenishment, that appear not to be accounted for in the proposed
model.
With respect to the sizing of its default fund, the Proposal raises
several questions. First, FTX has proposed to size its default fund to
cover a default by up to three participants (Cover-3) that create the
largest exposure for the DCO if Cover-1 or Cover-2 does not
collectively account for 10% of the initial margin on deposit. Its
Guaranty Fund will be funded by $250 million of its own capital, and
purportedly would cover any losses incurred on positions beyond those
accepted by BLPs and to reimburse those providers if necessary.
However, the proposed framework does not set a minimum coverage
requirement as a percentage of the cleared market share.
We note that in the traditional model, the default resources are
not limited to the contributions of the clearinghouse itself. That
amount is supplemented by contributions by the clearing members. In
fact, the member contributions far outweigh the so-called ``skin in the
game'' money contributed by clearinghouses. For example, CME's ``base''
service which covers all of its futures and options, has three layers
of protections: $100 million in skin in the game, $5.9 billion in
member contributions and we estimate $25 billion available through
members assessments. Even smaller exchanges with more concentrated
product ranges have amounts that dwarf the FTX Proposal: Nodal Clear
has $20 million in skin in the game, $204 million in members
contributions, and we estimate $838 million via assessment
authority.\17\
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\17\ FIA estimated the assessment amounts based upon a worst-case
scenario in which two of the five largest members defaulted at the same
time and the losses were so large that the clearinghouses applied the
maximum assessments to replenish the default fund. In such a scenario,
the assessment powers would be applied only to the surviving members of
the clearinghouse, and the amount would be capped at a multiple of the
pre-default contributions of those surviving members. That multiple is
5.5 at both CME and Nodal Clear.
---------------------------------------------------------------------------
6. FTX Default Resources
We understand that FTX's proposed model is extrapolated from CFTC
Reg. 39.11(a)(1)'s requirements for sizing obligations, based upon
the traditional default scenarios used by DCOs that have clearing
members carrying customer business, suggesting a large size for a
defaulting ``member.'' To account for the possibility that its members
may be smaller in size, FTX would size its resources using a similar
scenario that purports to be more conservative. From the materials
provided, it is not clear that the derived formula pursuant to which
FTX would size its resources is adequate.
Under Rule 39.11, sizing a Cover-1 default includes the largest
clearing member including all of its house business and customer
business. This proxy of the largest one or two clearing members
defaulting in a traditional CCP is not comparable to the largest one or
two direct participants failing. The Cover-1 or -2 model was not
developed for the failure of single clients or retail participants but
is designed for the failure of FCMs (including the required close out
of their clients). Effectively, the sizing of the default resources in
a non-intermediated retail market based on loss of its largest three
participants will be significantly smaller. In contrast, the
assumptions around the default of an FCM, generally including its house
and its client positions, yields a significantly higher loss that must
be absorbed by the resources of the CCP. We therefore worry that
covering only one or two defaulting participants in the FTX scenario
would be woefully inadequate.
Furthermore, the entities considered in this Cover-1 or Cover-2
default scenario are purposefully well funded and highly regulated. In
other words, the current system is built to prevent a default in the
first place given the capital requirements imposed on the clearing
members. Most FCMs are required to hold capital equal to 8% of the
total risk margin requirement for positions it and its customers carry.
As of December 2021, FCM capital held amounted to $175 billion.\18\ We
urge the Commission to consider the embedded protections in the current
model that ensure well capitalized participating clearing members in
the first place in determining whether the Cover-1, Cover-2 or Cover-3
default arrangements are even relevant to the FTX model which assumes
very different direct participants.
---------------------------------------------------------------------------
\18\ This includes FCMs Adjusted New Capital and Excess Net Capital
reported on the CFTC's Financial Data for FCMs report for the end of
December 2021. See infra, discussion of FCM capital requirements at p.
6. CFTC Reg. 1.17(a)(1) requires the higher of: $1 million (or $20
million for an FCM swap dealer); 8% of its risk margin requirements
(plus 2% of its uncleared swap margin, if the FCM is a swap dealer);
net capital required by any registered futures association; or, for
FCMs that are securities broker/dealers, the net capital required by
SEC Rule 15c3-1(a).
---------------------------------------------------------------------------
In markets where positions are highly correlated, we believe that
failures may have a cascading effect that should be assumed in market
design. The effect of underestimating this potential cascading effect
is that the modeling is neither extreme nor plausible. ``Cover-3'' is
based on an assessment that the default of the three largest clearing
members is highly unlikely. What analysis exists to determine how many
retail FTX participants are likely to default simultaneously during a
catastrophe? We urge the Commission to consider whether the proposed
reference to covering up to three participants in the proposed model is
really a plausible proxy for the types of losses that could be
incurred.
We further invite the Commission to make public several additional
pieces of information to help the market understand the appropriateness
of the Proposal, including:
How often will the size of FTX's Guaranty Fund contribution
be recalibrated?
How does FTX intend to replenish its resources in case the
Guaranty Fund has been used in part, and according to what
schedule?
Does FTX maintain a reserve fund ensuring additional and
dedicated funding, assuming any replenishment would come from
FTX's own capital?
Given the lack of ability to make assessments, what other
resources are available in the FTX waterfall should the Cover-3
resources be insufficient?
How will FTX monitor the use of the Default Resources across
closeout providers to ensure the default resources are not
exceeded while performing the closeout(s)?
The CFTC has spent years of time, attention, and thought upon CCP
resilience, recovery, and resolution since the enactment of the Dodd-
Frank Act. So have other U.S. financial regulators, and the
international financial regulatory community through the CPMI-IOSCO and
FSB. They have established principles and guidance, by which even many
non-systemically important U.S. DCOs voluntarily abide. We ask the CFTC
to ensure these principles are applied to this Proposal.
Given the interconnectedness of global markets, and the fact that
products covered by the FTX Proposal can potentially be extended to
other, more traditional asset classes cleared at other CCPs, what
happens on one DCO (or CCP) is often not limited to that particular
clearinghouse, and can have broader financial stability consequences.
See Sklar, Federal Reserve Bank of Chicago, Systemic Implications of
Access to Central Bank Accounts for CCP (found at https://
www.chicagofed.org/ /media/publications/working-papers/2020/wp2020-21-
pdf.pdf). Thus, the underlying principles governing application of law
and policy to derivatives clearinghouses are of widespread, fundamental
importance to the markets.
7. Margin Calculations and Handling
Although FTX indicates it will use a VAR model with a minimum 1-day
margin period of risk (MPOR), there is no modeling available for
review. The regulatory minimum for margin requirements is a model that
covers risk with a confidence interval of 99% based on a one day MPOR.
We note that the information available on the FTX margin framework is
fairly limited with no discussion of concentration margin and how it is
charged. Furthermore, the Proposal does not state whether FTX would
maintain position limits or charge additional margin to prevent
positions from becoming outsized, or provide detail on the efficacy of
the anti-pro-cyclicality tools used by FTX. Considering the volatility
of crypto products, anti-procyclicality tools are critical to ensure
the integrity of the marketplace. We therefore submit that the CFTC
should carefully consider FTX's margin modeling with these questions in
mind.
It is also worth considering that today, FCMs often challenge the
adequacy of margin rates assessed by DCOs. When FCM proprietary models
indicate that DCO margin rates inadequately cover potential market
moves, FCMs may charge premiums to DCO margin rates, protecting
themselves from a potential default by their customers and, thereby,
also protecting the customer asset pool and the DCO. It is not clear
who will similarly evaluate and mitigate against potential under-
margining by FTX.
Finally, we note concerns about using customer's margin to fund
FTX's business needs. The proposed FTX Rulebook includes a provision in
Rule 7.G.5. that permits FTX to use participant initial margin and
maintenance margin for meeting the Cover-1 liquidity needs of FTX. It
is not clear how this rule is compatible with requirements that the DCO
segregate customer funds from its own funds, and it merits closer
consideration. Given the lack of margin calls, we expect that
participants may want to overfund accounts in order to avoid
liquidation. We believe it is crucial for the CFTC to make clear that
excess participant funds are to be segregated at all times from the
DCO's funds.
8. Event of Bankruptcy
FIA notes that it is also not clear what would happen should FTX go
bankrupt. For instance, pursuant to Subpart C of applicable bankruptcy
rules (CFTC Reg. 190.11 et seq.), all property in this model is
member property. Thus, if there is a shortfall in the member account,
all Kalshi collateral (100% collateralized products cleared by FTX) and
all FTX leveraged products will be in the same class. The impact of the
single member account class in the Part 190 Regulations is that fully
collateralized Kalshi customers would subsidize the losses of FTX
margined customers in an FTX bankruptcy.\19\
---------------------------------------------------------------------------
\19\ The CFTC Bankruptcy Regulations have different subparts for an
FCM bankruptcy (Part 190, Subpart B) and a DCO bankruptcy (Part 190,
Subpart C). Various parts of the CFTC Bankruptcy Rules have different
definitions for FCMs and DCOs. For example, the definition of ``non-
public customer,'' ``public customer,'' and ``customer'' all differ
between an FCM and a DCO. Thus, being a customer of an FCM versus being
a direct member of a DCO may have important implications in a
bankruptcy scenario. The Commission should investigate and fully
understand these potential implications of the FTX model.
---------------------------------------------------------------------------
Given that participants would likely wish to overfund the account
to avoid auto-liquidation, we question what would happen to those funds
in a bankruptcy. With these apparent gaps and potential issues, we urge
the Commission to consider whether the Part 190 Regulations fit and
accommodate the proposed expansion of the DCO offering pursuant to the
FTX Proposal.
9. Issues in the Proposed Governance Framework
The FTX Proposal raises a fundamental concern about governance. As
the CFTC knows, the cleared market is intentionally set up with checks
and balances within the system. The DCOs have an oversight function of
the FCMs; the FCMs participate in checking the risk management of the
DCOs; regulatory authorities take feedback from both on proper risk
management of the system as a whole; and a comprehensive, principled
regulatory regime emerges and functions. Given the expected initial
makeup of its member base (i.e., primarily retail participation), we
would recommend greater clarity on how FTX expects to obtain meaningful
input on its risk management, legal and operational practices, and
governance from its market participants. Further, we query how FTX will
avail itself of market expertise which, at intermediated models, is
often provided through default management committees represented by
FCMs/brokers.
FIA believes that the oversight plans for the proposed model also
need more clarity. For example, it is not clear which entity or
entities at FTX will act as the Self-Regulatory Organization (``SRO'').
The Rulebook defines SRO as ``includ[ing] a DCO,'' but DCOs are not
themselves SROs, see CFTC Reg. 1.3. We urge the Commission to further
consider whether FTX could effectively and fairly perform all the
functions of an SRO, including whether it could audit its own entity,
and whether it would adhere to and participate in the Joint Audit
Committee and its standards.
A related concern is the frequency of defaults of participants, and
FTX's subsequent market activity in its own market. In all likelihood,
both the average number of defaults, and the average number of
simultaneous defaults, will be higher than under a traditional clearing
model. The resulting position liquidations, whether algo-driven or not,
will cause FTX itself to become a substantial market player in the
market it operates. This level of active market participation by the
CCP would be unseen not only with respect to CCPs under the traditional
market, but also with respect to any traditional broker/retail
aggregator. This raises concerns with regard to the market structure.
One of the primary sources of transparency for CCPs is the PFMI's
Public Quantitative and Qualitative Disclosures. We strongly encourage
FTX to issue Public Quantitative Disclosures as set forth in IOSCO's
PFMIs. This might seem a logical step in ensuring the integrity of the
FTX market.
10. Ownership
FTX shares common ownership with large trading firms doing business
in the cryptocurrency markets. This is not unique to FTX. In fact, many
trading venues are partly owned by market participants that have a
direct interest in helping the venue grow. There are, however, some
potential conflicts of interest in these arrangements and it is
important to establish protections to ensure a level playing field.
There is a lack of transparency into how the firms with common
ownership with FTX participate in the markets that it operates and what
advantages they might receive relative to other trading firms that do
not share common ownership. There is also a lack of information into
how these firms participate in the liquidation process and the backstop
liquidity program.
As the CFTC considers this issue, we urge the Commission to look to
the precedents set in the agency's implementation of the Dodd-Frank
Act. During that process, the CFTC devoted entire sets of rules to both
internal and external risk management with respect to entities that
participate within the clearing portion of the business on the one
hand, and within the dealing portion of the business on the other. At a
minimum, we would expect that similar protections be required to ensure
that the model does not create embedded advantages for certain
participants. Additionally, the CFTC may want to consider conditions
that prevent conflicts.
11. Impact on Non-Crypto Markets
As noted above, the FTX model as submitted to the Commission could
apply to any type of future, option, or centrally cleared derivatives
product. The simultaneous availability of both the existing DCM/DCO
model and the proposed model for the same products could create unique
issues that we urge the Commission to evaluate. For example, the 24/7/
365 nature of the FTX model, compared to the current model of regular
trading hours during weekdays, creates the potential for disparities
among the exchanges and potential impacts to price formations, trading
behaviors, including disruptive trading behaviors. In addition, the FTX
model contemplates liquidating positions in a manner different from
other models which could have wider market impacts. This could create
opportunities for unwanted and possibly disruptive arbitrage between an
auto-liquidated market and traditional markets listing the same
products. The Commission should consider what consequences the
simultaneous running of these different models could have on the system
as a whole.
III. Conclusion
We appreciate the opportunity to provide the foregoing comments on
the FTX Proposal. We hope it is clear from this letter that FIA
strongly believes in the fundamental regulatory principle,: same
business, same risks, same rules, used most recently in President
Biden's Executive Order on digital assets and cryptocurrencies. FIA
believes that that principle is appropriate here and its implementation
will lead to ensuring a level playing field to those providing services
in the market, and will protect customers by ensuring they receive all
the components of a robust regulatory framework.
Thank you again for the opportunity to comment. Please contact
Allison Lurton, Senior Vice President and General Counsel, at 202-466-
5460, if you have any questions about this letter.
Sincerely,
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Allison Lurton,
General Counsel and Chief Legal Officer.
______
Supplementary Material Submitted by Christopher S. Edmonds, Chief
Development Officer, Intercontinental Exchange, Inc.
Mrs. Cammack. Well, thank you. I have only got about 30
seconds left and, Mr. Edmonds, I have a very lengthy question
for you, so I am going to have to submit it for the record.
* * * * *
Mrs. Cammack. Well, thank you, Representative Spanberger. I
appreciate you yielding your time.
This is a little bit in the weeds so bear with me here, all
right? Mr. Edmonds, you noted that, quote, ``FTX participants
lose their positions when markets move against them, and they
are liquidated at adverse prices,'' end quote. But some market
participants in volatile markets, especially agriculture
markets, have noted a similar effect occurs with exchange
circuit breakers when trading is halted for the day if prices
move too much. In traditional markets, significant volatility
plus a halt in trading can result in large unaffordable margin
calls at the end of the day. If a participant cannot make their
margin call, their position is liquidated and their initial
margin is taken up to make up the difference, both closing out
a potential hedge and costing the participant their initial
margin. But the real kicker comes when the market reopens and
the volatile price swings back the other way, returning the now
liquidated position to profitability. How different is that
scenario under traditional markets from the scenario that you
laid out in your testimony? In both cases, the hedger is out of
a hedge and collateral.
Mr. Edmonds. Right, but in the----
Mrs. Cammack. Sorry, I know that was a mouthful.
Mr. Edmonds. I will try to be as brief as possible. In the
traditional marketplace, you have the FCM in most cases
intermediating that relationship. They may be in certain
circumstances extending you credit based on their knowledge of
your known physical position. And they see that and that is a
relationship you have and that is a credit relationship you
have with that intermediary. There is no chance for that in the
case here.
I would also say as to the point of volatility, the price in
the morning can be very against your position and a few hours
later that position before the market session closes can come
back into your position. In this case without a liquidation you
have already lost that. In the other case you are going to have
that position on an overnight when the market closes and the
price is set and you are going to determine whether you pay for
that or not, and that is going to be between you and the
relationship you have with your FCM.
Mrs. Cammack. Well, and I know I just ran out of time. I
would love to get your rebut to that as well just so that all
of us can really understand all sides of this.
Congresswoman Cammack, thank you for your question inquiring
between the difference in liquidating an agricultural market
participant hedge and liquidating a transaction under the
disintermediated model. As I mentioned during the hearing, commercial
participants have relationships with FCMs who often provide credit and
other services beyond intermediating the position with the
clearinghouse. FCMs have discretion to allow, in some cases, commercial
participants to maintain positions during times of significant
volatility. For example, in the case of intra-day price volatility,
there could be significant gains and losses during a trading session,
however the position may end up being flat at the close. The FCM has
the discretion to maintain the position and call for additional
collateral or extend credit to the commercial participant as opposed to
automatically closing out the position.
It is also important to note that commercial participants cannot
have hedges disappear overnight. There is no automatic liquidation in
an intermediated model. The FCM has a relationship with the customer
and understands the importance of these positions to the market
participants hedging their risk. These hedges are too important for
both for the firm and overall ag economy because, ultimately, these
hedge transactions can impact consumer price stability. If volatility
creates untenable margin calls for participants, they may have options
through FCMs which both preserve positions and avoid putting
clearinghouses at risk. Under the disintermediated model, a commercial
participant is faced with two options in a time of stress: (1) Round
the clock monitoring of a position with remaining risk for liquidation
depending on capital and speed of price volatility or (2) stranded
capital and increased costs (all the way to the consumer) for the type
of cushion necessary to prevent harmful liquidations. This is not a
positive choice for commercial agriculture hedgers.
If you need further detail, I am happy to discuss with you or your
staff personal. I appreciate the question and interest in this
important matter.
______
Submitted Question
Question Submitted by Hon. Jahana Hayes, a Representative in Congress
from Connecticut
Response from Hon. Terrence A. Duffy, Chairman and Chief Executive
Officer, CME Group
Question. On February 9, 2022, CFTC Chairman Rostin Behnam told the
Senate Committee on Agriculture that his agency would need a budget
increase of at least $100 million to take on an expanded role
overseeing cryptocurrency. Do you believe that the CFTC has adequate
resources to properly oversee trades and protect consumers as it is
proposed in the FTX model? If this model were to be adopted, and the
CFTC not receive a significant budget increase, what do you think the
outcome would be?
Answer. The FTX model is a proposal to change market structure that
would affect the entire industry including the CFTC's duties and its
allocation of resources. Because the FTX proposal avoids so many of the
regulatory guardrails, capital requirements, risk monitoring, customer
protections, and rules against conflicts of interest, it would likely
place a much greater burden on the CFTC's resources with regard to the
systemic risks that the application injects into markets as well as the
customer protection deficiencies in the proposed model. For instance,
the proposal's reliance on an algorithm to perform auto-liquidations
that functions 24/7, would likely require CFTC staff to monitor markets
24/7 in real-time, have experts prepared to step in at a moment's
notice to protect customer interests, and face the impossible task of
preventing a nearly instantaneous market event that has the potential
to spread into broader capital markets. In addition, the Commission
would lose the efficiencies that the National Futures Association (NFA)
and the exchanges provide by serving as front line regulators
monitoring FCM activities. The Commission would likely need additional
staffing resources to monitor FTX's compliance with any FCM-like
conditions the Commission may impose, and the multitude of regulatory
exemptions that would be required for FTX to operate in the manner
proposed, to assure that FTX is subject to effective oversight of its
activities and the conflicts of interest embedded in its model.
[all]