[Federal Register Volume 64, Number 56 (Wednesday, March 24, 1999)]
[Proposed Rules]
[Pages 14159-14178]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 99-6829]


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COMMODITY FUTURES TRADING COMMISSION

17 CFR Parts 1 and 30


Access to Automated Boards of Trade

AGENCY: Commodity Futures Trading Commission.

ACTION: Proposed rules.

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SUMMARY: On July 24, 1998, the Commodity Futures Trading Commission 
(``CFTC'' or ``Commission'') published in the Federal Register a 
``concept release'' seeking public comment on issues related to 
permitting the use in the U.S. of automated trading systems providing 
access to electronic boards of trade otherwise primarily operating 
outside the U.S. Following its review of the comments received on the 
concept release, the Commission has determined to propose new rules 
concerning automated access to these boards of trade from within the 
U.S. The Commission is proposing herein a new Rule 30.11 that would 
establish a procedure for an electronic exchange operating primarily 
outside the U.S. to petition the Commission for an order that would 
permit use of automated trading systems that provide access to the 
board of trade from within the U.S. without requiring the board of 
trade to be designated as a U.S. contract market. If appropriate in 
light of the information provided in a petition, the Commission would 
issue an order under section 4(c) of the Commodity Exchange Act 
(``Act'' or ``CEA'') that would allow a member of the petitioner board 
of trade or an affiliate thereof to operate automated trading systems 
that provide access to the board of trade in the U.S., subject to 
specified conditions.
    The Commission also is proposing a new Rule 1.71, which would apply 
both to domestic and foreign firms. New Rule 1.71 would clarify that 
U.S. customers and foreign futures and foreign options customers 
wishing to trade on or subject to the rules of the automated trading 
system of a U.S. contract market or on or subject to the rules of the 
automated trading system of an exchange otherwise operating primarily 
outside the U.S. may place orders via automated order routing systems, 
provided that such systems meet certain minimum requirements and 
provide certain safeguards such as automated checks for customer 
trading or position limits and credit limits.
    The rules proposed herein are focused on boards of trade with 
automated order matching/execution, often referred to as ``electronic 
exchanges,'' and do not address the use of order routing systems or 
other communication devices that provide access to traditional open 
outcry exchanges.

DATES: Comments must be received on or before April 23, 1999.

ADDRESSES: Comments on the proposed rules may be sent to Jean A. Webb, 
Secretary of the Commission, Commodity Futures Trading Commission, 1155 
21st Street, NW., Washington, DC 20581. In addition, comments may be 
sent by facsimile transmission to facsimile number (202) 418-5521 or by 
electronic mail to [email protected]. Reference should be made to 
``Access to Automated Boards of Trade.''

FOR FURTHER INFORMATION CONTACT: David M. Battan, Chief Counsel, 
Lawrence B. Patent, Associate Chief Counsel, or Charles T. O'Brien, 
Attorney Advisor, Division of Trading and Markets, Commodity Futures 
Trading Commission, 1155 21st Street, NW., Washington, DC 20581. 
Telephone (202) 418-5450.

SUPPLEMENTARY INFORMATION:

I. Introduction

    Significant developments in technology in recent years have made 
automated trading methods a significant addition or alternative to 
traditional open outcry for trading commodity futures and option 
products on or subject to the rules of foreign and domestic boards of 
trade. In February 1996, the Commission's Division of Trading and 
Markets (``Division'') issued a no-action letter to the Deutsche 
Terminborse (``DTB'' or ``Eurex''), \1\ an automated international 
futures and option exchange headquartered in Frankfurt, Germany, in 
which the Division agreed, subject to certain conditions, not to 
recommend enforcement action to the Commission if Eurex placed computer 
terminals in the U.S. offices of its members for principal trading \2\ 
and, where the Eurex member

[[Page 14160]]

is also an FCM registered under the Act,\3\ for trading on behalf of 
U.S. customers as well, without Eurex being designated as a U.S. 
contract market (``Letter'').\4\ Since the Division's issuance of the 
Letter, several other boards of trade that have heretofore operated 
outside the U.S. have requested similar relief.
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    \1\ In June 1998, DTB changed its name to Eurex Deutschland 
(``Eurex'').
    \2\ A ``principal'' trade under Eurex rules is limited to a 
trade made by a Eurex member for its own account. Eurex's definition 
of ``principal'' is thus narrower than the definition of 
``proprietary'' found in Commission Rule 1.3(y). A proprietary trade 
under Commission rules includes not only transactions made by 
futures commission merchants (``FCMs'') for their own accounts, but 
also those made by certain affiliates and insiders of the FCM for 
their respective accounts carried by the FCM.
    \3\ 7 U.S.C. 1 et seq. (1994).
    \4\ See CFTC Interpretative Letter No. 96-28, (1996-1997 
Transfer Binder) Comm. Fut. L. Rep. (CCH) para. 26,669 (Feb. 29, 
1996). For a thorough discussion of prior Division actions 
concerning automated trading system use in the U.S., see the 
Commission's concept release, discussed below. 63 FR 39779 (July 24, 
1998).
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    In light of these requests, the Commission determined that it is 
appropriate to address, through the Commission's rulemaking process, 
the subject of the use in the U.S. of automated trading systems that 
provide access to boards of trade whose primary operations otherwise 
take place outside the U.S. The Commission began this process in July 
1998 by publishing in the Federal Register a concept release seeking 
public comment on a wide variety of questions concerning the use of 
automated trading systems in the U.S. and on a possible regulatory 
structure to address these questions. After reviewing the comments 
received and engaging in discussions with industry participants, the 
Commission has decided to propose rules that incorporate many of the 
general principles set forth for comment in the concept release. 
However, based upon the comments received and the Commission's further 
consideration of the issues, the proposal contains a number of 
refinements to the model set forth in the concept release.
    The Commission's purpose in issuing these proposed rules is to 
create a framework for addressing the regulatory issues that arise from 
the increasing globalization of futures exchanges. The procedures set 
forth herein are intended to provide an exemption from the contract 
market designation requirement for boards of trade that are established 
in a foreign country and that have historically operated solely within 
that countries other than the U.S., but that as a result of a desire to 
take advantage of technological advancements, now wish to make their 
products accessible from within the U.S. via trading screens, the 
Internet, or other automated trading systems. Boards of trade that are 
accessible within the U.S. in this manner are not ``located outside the 
U.S.'' for purposes of section 4(a) of the Act and might, accordingly, 
be required to be designated as contract markets absent an exemption 
under Section 4(c) of the Act.\5\ However, the Commission does not 
believe that it would be appropriate to require these exchanges to be 
designated as contract markets as long as they would be subject to 
generally comparable regulation in their home countries. Exemption from 
the contract market designation requirement and other related 
requirements under the Act and Commission regulations would avoid 
duplicative regulation, would encourage other countries to allow access 
to the automated trading systems of U.S. exchanges and would encourage 
global competition and open markets in the industry. The Commission 
believes that the petition approach set forth below would provide the 
Commission with the information necessary to identify those boards of 
trade that would be ``located in the U.S.'' by virtue of being 
accessible from within the U.S. via automated trading systems, but that 
otherwise would continue to be primarily operated outside the U.S. The 
Commission would exercise its power under section 4(c) of the Act to 
exempt such boards of trade from regulation under the Act if the 
requirements described below are satisfied. Further, the process 
described herein is flexible enough that, if the locus of the board of 
trade's activities is such that it should be subject to all 
requirements of the Act and the Commission's regulations, if the board 
of trade is not subject to a generally comparable regulatory structure, 
or if the board of trade has been established and structured 
purposefully to evade U.S. regulation, the Commission can require it to 
become a designated contract market.
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    \5\ Section 4(a) of the Act states in relevant part:
    * * *[I]t shall be unlawful for any person to offer to enter 
into, to enter into, to execute, to confirm the execution of, or to 
conduct any office or business anywhere in the U.S., its territories 
or possessions, for the purpose of soliciting, or accepting any 
order for, or otherwise dealing in, any transaction in, or in 
connection with a contract for the purchase or sale of a commodity 
for future delivery (other than a contract which is made on or 
subject to the rules of a board of trade, exchange, or market 
located outside the U.S., its territories or possessions) unless--
    (1) such transaction is conducted on or subject to the rules of 
a board of trade which has been designated by the Commission as a 
``contract market'' for such commodity;
    (2) such contract is executed or consummated by or through a 
member of such contract market; and
    (3) such contract is evidenced by a record in writing * * *.
    Section 4(c) of the Act provides the Commission with authority 
``by rule, regulation, or order'' to exempt ``any agreement, 
contract or transaction'' from the requirements of Section 4(a) of 
the act if the Commission determines that the exemption would be 
consistent with the public interest, that the contracts would be 
entered into solely by appropriate persons and that the exemption 
would not have a material adverse effect on the ability of the 
Commission or any contract market to discharge its regulatory or 
self-regulatory duties under the Act. 7 U.S.C. 6(a) and 6(c) (1994).
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    In determining whether to exercise its section 4(c) exemptive 
authority with respect to a particular petitioner, the Commission 
believes that it is essential to its customer protection obligations 
under the Act to ensure that certain general standards have been met. 
Specifically, the Commission intends to ensure that: (1) The petitioner 
is an established board of trade that wishes to place within the United 
States an automated trading system permitting access to its products 
but whose activities are otherwise primarily located in a particular 
foreign country that has taken responsibility for regulation of the 
petitioner; (2) the petitioner's home country has established a 
regulatory scheme that is generally comparable to that in the U.S. and 
provides basic protections for customers trading on markets and for the 
integrity of the markets themselves; (3) except for certain incidental 
contacts with the U.S., the petitioner is present in the U.S. only by 
virtue of being accessible from within the U.S. via its automated 
trading system; (4) the petitioner is willing to submit itself to the 
jurisdiction of the Commission and the U.S. courts in connection with 
its activities conducted under an exemptive order; (5) the petitioner's 
automated trading system has been approved by the petitioner's home 
country regulatory following a review of the system that applied the 
standards set forth in the 1990 International Organisation of 
Securities Commissions (``IOSCO'') report on screen-based trading 
systems (as may be revised and updated from time-to-time) or 
substantially similar standards; and (6) satisfactory information 
sharing arrangements are in effect between the Commission and the 
petitioner and the petitioner's regulatory authority. As discussed 
further in the description of the petition procedure below, a 
petitioner which satisfies these standards may be issued an order under 
section 4(c) of the Act that exempts the petitioner from the contract 
market designation requirements of section 4(a) of the Act and related 
statutory and regulatory provisions.

II. The Concept Release

    The July 1998 concept release raised general questions concerning, 
among other things, how to define an

[[Page 14161]]

automated system that would be subject to Commission rules, how to 
treat the use of automated order routing systems located in the U.S. 
when they are employed to enter orders through a futures commission 
merchant (``FCM'') (or through a firm exempt from registration pursuant 
to Commission Rule 30.10, also referred to as a ``Rule 30.10 firm'') 
\6\ for execution on a board of trade operated primarily outside the 
U.S., and how to determine if a board of trade's activities in the U.S. 
are such that it should be subject to all of the requirements of the 
Act and the Commission's regulations. The concept release also set 
forth for comment a possible regulatory approach that was intended to 
promote discussion on the appropriate means to resolve these and 
related issues.
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    \6\ Commission Rule 30.10 provides for a process whereby any 
person affected by any requirement in the Commission's part 30 rules 
may petition the Commission for an exemption from such requirement. 
Appendix A to the part 30 rules provides an interpretative statement 
that clarifies that a foreign regulator or self-regulatory 
organization (``SRO'') can petition the Commission under Rule 30.10 
for an order to permit firms that are members of the SRO and subject 
to regulation by the foreign regulator to conduct business from 
locations outside the U.S. for U.S. persons on non-U.S. boards of 
trade without registering under the Act--based upon substituted 
compliance with a foreign regulatory structure found comparable to 
that administered by the Commission under the Act. In considering a 
request from a foreign regulatory or self-regulatory authority for 
Rule 30.10 comparability relief, the Commission considers, among 
other things: (1) Registration, authorization or other form of 
licensing, fitness review, or qualification of persons through whom 
customer orders are solicited and accepted; (2) minimum financial 
requirements for those persons that accept customer funds; (3) 
minimum sales practice standards, including disclosure of risks and 
the risk of transactions undertaken outside of the United States; 
(4) procedures for auditing compliance with the requirements of the 
regulatory program, including recordkeeping and reporting 
requirements; (5) protection of customer funds from misapplication; 
and (6) the existence of appropriate information-sharing agreements. 
The Commission has issued orders to permit certain foreign firms 
that have comparability relief under Rule 30.10 to engage in limited 
marketing activities of foreign futures and option products from 
locations within the United States. See orders of October 28, 1992, 
57 FR 49644 (Nov. 3, 1992), and August 4, 1994, 59 FR 42156 (Aug. 
17, 1994).
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    The Commission initially provided a 60-day comment period on the 
concept release, through September 22, 1998. On September 18, 1998, the 
Commission extended the comment period for fifteen days, through 
October 7, 1998. The Commission received 31 comments on the release: 19 
from futures exchanges, three from FCMs, two from futures trade 
associations, two from commodity trading advisors (one of which is also 
a registered commodity pool operator), one from a futures self-
regulatory authority, one from an exchange member and three from 
foreign securities/futures regulatory authorities. In addition, the 
Commission was aided significantly in the development of these proposed 
rules by the work of the Commission's Global Markets Advisory Committee 
which held two public meetings on these issues, as well as the 
Committee's Working Group on Electronic Terminals which prepared a 
report for the Commission on these issues. The Commission's Financial 
Products Advisory Committee also held a public meeting at which these 
issues were discussed.
    In general, most commenters supported the Commission's effort to 
develop uniform rules concerning the use from within the U.S. of 
automated trading systems that provide access to boards of trade 
operated primarily outside the U.S. For example, Her Majesty's (``HM'') 
Treasury, the regulator that is authorized to grant foreign exchanges 
the right to have their automated trading systems placed in the U.K.\7\ 
indicated in its comment letter that the approach set forth in the 
concept release is similar to that applied by HM Treasury when 
processing similar requests in the U.K. Other commenters, however, took 
issue with various aspects of the possible regulatory approach set 
forth in the concept release. Certain specific comments concerning the 
approach set forth in the concept release and the issues related 
thereto are discussed in the description of the proposed rules which 
follows.
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    \7\ Specifically, HM Treasury is authorized to grant a foreign 
exchange status as a ``recognized overseas investment exchange'' 
(``ROIE'') and to monitor ROIEs operating in the U.K. through 
automated trading systems placed in the U.K. HM Treasury's 
responsibilities with respect to ROIEs are to be transferred to the 
Financial Services Authority (``FSA'') with the enactment of the 
Financial Services and Markets Bill, which is anticipated to take 
place some time toward the end of 1999.
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    The Commission believes that the rules proposed herein will 
establish a regulatory approach that addresses the important issues 
presented by the use of automated trading systems in the U.S. by boards 
of trade otherwise operated primarily outside the U.S. in a manner that 
will foster growth of the global marketplace while fulfilling the 
Commission's obligations under the Act to protect U.S. customers and to 
maintain the integrity and competitiveness of U.S. markets. The 
Commission looks forward to the comments on the proposed rules herein 
and will consider such comments carefully in adopting any final rules.

III. The Proposed Rules

A. Definitions

    Proposed Rules 30.11(a) (1) and (2) distinguish between two major 
types of automated trading systems and establish two mutually exclusive 
definitions, ``direct execution system'' (``DES'') and ``automated 
order routing system'' (``AORS''). As explained more fully below, DES 
is a term that encompasses any system that allows entry of orders from 
within the U.S. for an automated board of trade, except those systems 
that satisfy the definition of AORS. AORSs generally are systems on 
which customers or their representatives would submit orders through an 
FMC or rule 30.10 firm for automated execution, although the definition 
covers every system on which an order is transmitted to another party 
and then transmitted to an automated board of trade. It should be noted 
that the definitions of DES and AORS, and these rules generally, only 
apply in the context of automated or ``electronic'' boards of trade 
where orders are matched and executed at the board of trade without 
substantial human intervention. Order routing or other devices that are 
used to enter or to communicate trades to be executed on traditional 
open outcry exchanges are not within the ambit of these rules.\8\ If 
one exchange organization operates both an electronic exchange and an 
open outcry exchange, the proposed rules would apply to the former but 
not to the latter. The Commission wishes to emphasize that the 
definitions of DES and AORS are structured so that every device, system 
or software upon which orders for products traded on boards of trade 
can be entered from within the U.S. for any electronic exchange would 
fall into one or the other category.\9\
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    \8\ The definitions of DES and AORS apply to systems that access 
boards of trade where trade execution takes place ``without 
substantial human intervention.'' See proposed Rules 30.11(a)(1) and 
1.3(tt) (emphasis added). The word ``substantial'' is included to 
make clear that an automated or electronic exchange cannot evade the 
application of these rules by inserting clerical or trivial human 
action into the trade matching/execution process. Execution on 
traditional open outcry exchanges involves substantial human 
intervention and, as noted above, is beyond the scope of these 
rules.
    \9\ A determination as to whether a system is a DES or an AORS 
is not dependent on who designs, maintains or provides the system. 
That a particular system implementation uses third-party hardware, 
networks or services will not prevent it from being a DES or AORS.
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    It should be noted further that, while those rules provide 
standards for exemptive relief to certain boards of trade with respect 
to their exchange-traded products, these rules do not sanction the 
trading of off-exchange products, nor do they alter, restrict or

[[Page 14162]]

expand the coverage of existing Commission exemptions for particular 
classes of products. For example, an illegal off-exchange futures 
product that is traded in violation of the Act may not lawfully be 
traded via an AORS, even if such AORS satisfies the requirements of the 
proposed rules. Likewise, a product that has been exempted from 
relevant provisions of the Act need not satisfy the requirements of 
these rules unless the Commission rule or order exempting the product 
so indicates.\10\
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    \10\ For example, the Commission could decide in the future that 
a particular class of products should be exempt from some Commission 
regulations, but that, to the extent such class of products will be 
traded through automated trading systems, these proposed rules 
should apply.
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    Paragraph (a)(1) of proposed Rule 30.11 defines a DES as any system 
of computers, software or other devices that allows the entry of orders 
for products traded on a board of trade's computer or other automated 
device where, without substantial human intervention, trade matching or 
execution takes place. One common example of a DES is a board of 
trade's proprietary computer terminal (e.g., a dedicated Eurex computer 
terminal where members place orders that are then executed in the 
exchange's matching system). However, the term DES would also include 
any other device that currently is being used or may be used in the 
future to provide access to a board of trade's automated matching 
engine. Such devices might include, for example, computer software that 
facilitates access via a personal computer or other electronic device, 
an automated telephonic system that is connected, or can be used to 
connect, to the main computer of a board of trade primarily operated 
outside the U.S. for order matching and execution, and direct Internet 
access to such a board of trade through a personal computer, telephone 
or similar device. Thus, for example, if a board of trade that is 
otherwise primarily operated outside the U.S. were to provide its 
members in the U.S. with personal identification numbers or passwords 
that permitted such members to access and to place orders on the board 
of trade via an automated telephone system or Internet connection, the 
board of trade would be covered by the proposed rules.
    Paragraph (a)(2) of proposed Rule 30.11 defines AORS. This term is 
defined by reference to a definition that is being proposed herein to 
be added as new Rule 1.3(tt).\11\ Proposed rule 1.3(tt) in turn would 
define an AORS as any system of computers, software or other devices 
that allows entry of orders through another party for transmission to a 
board of trade's computer or other automated device where, without 
substantial human intervenion, trade matching or execution takes place. 
The Commission anticipates that the most common form of an AORS will be 
computer software that is provided by an FCM (or Rule 30.10 firm) to 
customers, foreign futures and options customers, or their 
representatives such as CTAs to enter orders on a board of trade or on 
several boards of trade. This rule is intended to cover an AORS used by 
any person for trading on a designated contract market's automated 
system, whether the person, his or her representative or the AORS is 
located in the U.S. or outside of the U.S. The AORS in these 
circumstances must provide for trading through an FCM. The rule also is 
intended to cover trading by a person located in the U.S. on a board of 
trade that otherwise primarily is operated outside the U.S. and that 
has received a Commission exemptive order under these rules or whose 
products are accessible as part of an automated trading system pursuant 
to rules of a designated contract market that have been submitted to 
the Commission and are in effect pursuant to section 5a(a)(12)(A) of 
the Act and Rule 1.41 (hereinafter referred to as a ``linked 
exchange''). The AORS in the latter circumstances must provide for 
trading through an FCM or a Rule 30.10 firm.
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    \11\ Since this term and the requirements applicable thereto 
would, as recommended by some commenters, apply uniformly and not 
only to boards of trade primarily operated outside the U.S., the 
Commission is proposing to define AORS in a new paragraph (tt) of 
Commission Rule 1.3, which contains the Commission's general 
definitions.
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    Rule 30.10 firms may not solicit or accept orders from U.S. persons 
for trading on designated contract markets, and these proposed rules 
are not intended to affect that prohibition. Under these rules, 
however, Rule 30.10 firms would be authorized to solicit or accept 
orders from U.S. customers for products traded on automated boards of 
trade that obtain a Commission order under these rules or products 
traded on linked exchanges. To this end, the Commission is proposing 
Rule 30.11(g), which would deem products traded on a board of trade 
that received a Commission order or on a linked exchange to be foreign 
futures or foreign options, notwithstanding the board of trade's or 
linked exchange's presence in the U.S.\12\ Further, these rules would 
not expand the boards of trade for which a Rule 30.10 firm may solicit 
or accept orders beyond those provided in the relevant Commission order 
issued under rule 30.10 and any confirmation thereof for a particular 
firm. Thus, if the Commission's order issued under Rule 30.10 permits a 
firm to solicit or accept orders for products traded on boards of trade 
in its home country and Countries B and C (but not Country D), the 
restriction on soliciting or accepting orders for products traded on a 
board of trade in Country D would remain in effect even if the Country 
D board of trade were to obtain a section 4(c) exemption order in 
accordance with Rule 30.11.
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    \12\ Consistent with current regulations regarding linked 
exchanges, Rule 30.10 firms could handle U.S. customer orders for 
products traded on the linked exchange but not for products traded 
on the designated contract market to which that exchange is linked.
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    The proposed rules would not permit customer use of DESs; however, 
they would allow customers and their representatives to obtain AORSs 
and to enter orders via those AORSs. Under the proposal, a customer 
order for a contract traded on or subject to the rules of an exempted 
board of trade under proposed Rule 30.11 or a linked exchange that is 
made via an AORS would be required to be made through a registered FCM 
or through a Rule 30.10 firm.
    The Commission requested comment as to whether it should consider 
imposing any requirements that would enable it to ensure that board of 
trade members who would have DESs are bona fide members (i.e. to ensure 
that petitioning boards of trade do not create membership categories 
that do not meaningfully differentiate between traditional ``members'' 
and ``customers'').\13\ In response to this request, one commenter 
suggested that the Commission should require information concerning a 
board of trade's membership standards and closely examine those 
standards to ensure that they are meaningful. Another commenter stated, 
among other things, that the Commission should not impose formal limits 
on exchange membership qualifications and that no limitations should be 
imposed as long as a board of trade primarily operated outside the U.S. 
does not have special membership categories (i.e., as long as all 
members have the same rights and obligations).
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    \13\ 63 FR at 39787.
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    The Commission has determined to require that petitioners under the 
proposed rule provide information concerning their membership rules and 
classes. The information should include any financial requirements 
(e.g., net worth requirements and fees for

[[Page 14163]]

membership) as well as any experience or professional requirements or 
certifications established by the board of trade. The Commission's 
proposed rules require that, for customer protection purposes, the 
trades of U.S. customers on automated trading systems must be 
intermediated by an FCM or by a Rule 30.10 firm. Accordingly, the 
Commission wishes to ensure that access to DESs is limited to commodity 
professionals and large sophisticated users trading their proprietary 
accounts. The Commission would review the information received 
concerning a petitioner's membership requirements with a view toward 
ensuring that the petitioner's membership criteria did not provide a 
means for avoidance of intermediation for U.S. retail investors. In the 
event that the commission concluded form the information received that 
U.S. retail customers could be ``members'' under a particular 
petitioner's rules and could, therefore, have access to DESs if the 
Commission were to issue a section 4(c) exemption order to the 
petitioner, the Commission could refuse to issue such an order or could 
condition its order accordingly. In the latter regard, the Commission 
could take into account relevant market structures and financial 
protections and controls that potentially could serve the same customer 
protection objectives as professional intermediation.
    As technology continues to evolve, the available means to provide 
direct access from within the U.S. to boards of trade otherwise 
primarily operating outside the U.S. undoubtedly will further develop. 
By using broad definitions, the Commission hopes to creates a 
regulatory approach that provides a flexible means to incorporate the 
changing nature of technology. The Commission has no desire to dictate 
particular technology choices to market participants, nor does it wish 
to restrict innovation, and these rules were crafted accordingly.

B. The Petition Procedure

    The Commission's proposal would establish a uniform procedure to 
enable a board of trade that primarily is operating outside the U.S. to 
request a Commission order that would permit access, via DESs or AORSs, 
to the board of trade's products from within the U.S. without requiring 
the board of trade to be designated as a U.S. contract market. The 
Commission wishes to emphasize that the proposed rules would not alter 
a board of trade's obligations to: (a) Receive a no-action position 
from the Commission prior to authorizing the offer or sale of any stock 
index futures or options contracts in the U.S. or (b) have any foreign 
government debt obligation first designated as an ``exempt security'' 
by the Securities and Exchange Commission (``SEC'') before authorizing 
the offer or sale of any futures contract or option thereon in the U.S.
    The approach set forth for discussion in the concept release 
envisioned a two-step procedure. Under this approach, a board of trade 
that primarily is operated outside the U.S. would first petition the 
Commission for an order that would permit the use of automated trading 
systems in the U.S. to facilitate trading of the board of trade's 
products without requiring the board of trade to receive U.S. contract 
market designation. Next, if the Commission issued an exemptive order 
to a particular board of trade, a member of that board of trade or an 
affiliate thereof would be able to make a written request to the 
National Futures Association (``NFA'') for confirmation to operate 
under the order.\14\
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    \14\ 62 FR 47792, 47795 (Sept. 11, 1997)
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    The concept of a confirmation process was derived from the 
procedure currently required of Eurex members for their compliance with 
the Letter. Pursuant to this procedure, if a Eurex member located in 
the U.S. wishes to install a Eurex terminal in its office, Eurex must 
make a written filing to the NFA on behalf of that member, including 
certain information and declarations.
    The potential approach set forth in the concept release suggested 
the possibility of codifying confirmation process similar to that from 
the Eurex Letter. Although the Commission received few comments 
regarding the confirmation process, upon reconsideration of this 
procedure the Commission has determined that such a process is 
unnecessary. A a simpler alter-native to this procedure, the proposed 
rules would require only that, as a condition to any section 4(c) 
exemption order, a board of trade primarily operating outside the U.S. 
must maintain and provide to the Commission's on a quarterly basis, and 
at any other time upon request of a Commission representative, a 
current list that includes (1) the names and main business addresses in 
the U.S. of its members and affiliates thereof that have DESs in the 
U.S. indicating which of such persons allow their customers to use 
AORSs, and (2) the names and main business addresses of its members and 
affiliates thereof that allow their U.S. customers to use AORSs but who 
do not have DESs in the U.S.\15\ Thus, under the proposed rules, after 
the Commission issues an exemption order,\16\ any member, or affiliate 
thereof,\17\ of the petitioner may take advantage of the Commission's 
order immediately.\18\ Additionally, as discussed below in Section III. 
B. 3. concerning the use of AORSs, after the Commission issues an order 
under these rules, any FCM or Rule 30.10 firm may provide U.S. 
customers with AORSs that provide access to the products of the board 
of trade that received the Commission order provided that the AORS 
meets certain minimal requirements and contains certain safeguards.\19\
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    \15\ See proposed Rule 30.11(d)(3)(iii).
    \16\ Proposed Rule 30.3(c) makes clear that a board of trade 
that primarily operates outside the U.S. that is accessible from a 
DES in the U.S. must be designated as a U.S. contract market unless 
it has received a section 4(c) exemption order under Rule 30.11. The 
Commission believes that this rule is necessary to ensure its 
ability to enforce proposed Rule 30.11 adequately.
    \17\ Proposed Rule 30.11(a)(3) defines an affiliate of a board 
of trade member for purposes of the rule as: (1) A person that owns 
50% or more of a member (e.g., a board of trade member's parent 
company with an ownership interest in the board of trade member of 
50% or more); (2) a person owned 50% or more by a member (e.g., a 
board of trade member's 50%-or-more-owned subsidiary); or (3) a 
person that is owned by a third person that also owns 50% or more of 
a member (e.g., a member's sister company where both the member and 
the sister company are owned 50% or more by a third person).
    \18\ Because any person who solicits or accepts orders and funds 
related thereto from U.S. customers for trading pursuant to a 
Commission order under Rule 30.11 must be registered as an FCM or 
operate pursuant to an order of exemption under Rule 30.10, the 
Commission would have appropriate means to discipline such a person 
for any violation of the Act or rules thereunder relating to the 
operation of board of trade DESs or AORSs in the U.S.
    \19\ Proposed Rule 30.3(d) would provide that, except as 
provided in Rule 30.11, it shall be unlawful for any person to 
solicit or accept orders for, or to accept money, securities or 
property in connection with the purchase or sale of, foreign futures 
or foreign options by a foreign futures or options customer that are 
placed via an AORS (as defined in proposed Rule 30.11(a)(2) by 
reference to proposed Rule 1.3(tt)) unless the board of trade 
through which the transaction will be executed has been designated 
as a contract market under section 5 of the Act. As noted above 
proposed Rule 30.11 is not intended to allow Rule 30.10 firms to 
solicit or to accept orders from U.S. customers to be placed on a 
U.S. contract Market. To obviate any limitations on the use of AORS 
by Rule 30.10 firms, Rule 30.11(g) would deem products traded on a 
board of trade that received a Commission order under Rule 30.11 to 
be foreign futures or foreign options.
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    This release is not intended to alter Commission Rule 30.4 that 
requires, generally, that a foreign firm be a registered FCM or a Rule 
30.10 firm if it solicits or accepts orders for or involving any 
foreign futures contract or foreign options transaction and, in 
connection therewith, accepts money, securities or property to margin, 
guarantee or secure any trades or contracts that result therefrom

[[Page 14164]]

(including where the U.S. person is a nonclearing member of an exempt 
board of trade trading solely for its own account).\20\ The Commission 
also wishes to make clear that the Commission's issuance of a Rule 
30.11 order would not affect the Commission's ability to bring 
appropriate actions for fraud or manipulation, nor would it alter the 
obligations of the board of trade that received the order, its members, 
FCMs or any other persons under applicable provisions of the Act or the 
Commission's regulations, except as specifically provided in these 
rules or in a section 4(c) exemption order. For example, an FCM who 
solicits or accepts orders from U.S. customers for trading on a board 
of trade exempted under proposed Rule 30.11 or on a linked exchange 
would remain responsible for complying with the risk disclosure 
requirements set forth in Rule 30.6 regarding, among other things, the 
risks associated with trading foreign futures or foreign options 
contracts.\21\
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    \20\ Commission staff have interpreted this rule to provide an 
exception if (1) the foreign firm is either a member of the relevant 
board of trade or is a foreign affiliate of a registered FCM and its 
sole contact with a U.S. customer is that it carries the FCM's 
customer omnibus account or (2) the foreign firm solely carries 
accounts on behalf of U.S. customers that are proprietary accounts 
(as defined in Rule 1.3(y)) of the foreign firm. See CFTC 
Interpretative Letter No. 87-7, Comm. Fut. L. Rep. (CCH) 
para.23,972, (Nov. 17, 1987), and CFTC Interpretative Letter No. 88-
15, Comm. Fut. L. Rep. (CCH) para.24,296 (August 10, 1998).
    \21\ Rule 30.6 refers to Rule 1.55 which requires, among other 
things, that an FCM provide a risk disclosure statement to each of 
its customers that provides certain disclosures regarding the risks 
associated with trading in commodity futures contracts. Paragraphs 
(b) (7) and (8) of Rule 1.55 contain required language specifically 
related to risks concerning trading in foreign futures and foreign 
options. In particular, paragraph (b)(7) requires disclosure that, 
because ``[n]o domestic organization regulates the activities of a 
foreign exchange . . .'', customers who trade on these exchanges may 
not be afforded the same protections (e.g., protections regarding 
the safety of margin funds) that may apply to domestic transactions. 
Rules 4.24 and 4.34 require similar risk disclosure language to be 
provided by commodity pool operators and commodity trading advisors 
to their customers if the offered pool may trade in foreign futures 
or foreign options contracts or the offered trading program permits 
the trading of foreign futures or foreign option. See also Rule 
30.6, as proposed to be amended by 64 FR 1566 (Jan. 11, 1999).
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1. Application Procedure
    Paragraph (b) of proposed Rule 30.11 establishes the petition 
procedure discussed above, whereby a board of trade may petition the 
Commission for an exemption order under section 4(c) of the Act. Such 
an order would enable DESs or AORSs that provide access to the board of 
trade's products to be used in the U.S. without requiring the board of 
trade to be designated as a contract market.
    The approach set forth in the concept release requested comments on 
six general categories of information that could be included in a 
petition by a board of trade: (1) General information concerning the 
petitioner and its products; (2) information concerning the 
petitioner's rules and regulations, the laws and regulations in effect 
in the petitioner's home country, and the methods for monitoring 
compliance therewith; (3) information related to the board of trade's 
technological system and standards; (4) financial and accounting 
information; (5) information concerning the ability of U.S. contract 
markets to operate in the petitioner's home country; and (6) 
information concerning the petitioner's U.S. activities and presence. 
The concept release suggested that this information would be used to 
determine whether a board of trade that is subject to regulation by a 
foreign regulator and whose primary locus of operations is aboard 
should be exempt from contract market designation requirements if it 
places automated trading systems in the U.S. accessing such board of 
trade.
    Commenters generally agreed that the Commission has a legitimate 
regulatory interest in examining automated boards of trade that are 
primarily operated abroad, but that nonetheless wish to have a presence 
in the U.S. by becoming accessible from within the U.S. via computer 
screens or other automated trading systems. However, some commenters 
took issue with certain of the specific information included in the 
categories above, generally based upon concerns regarding the 
information's relevance or based upon concerns that collection of the 
information would be unnecessarily duplicative or burdensome. In light 
of the comments received and the Commissions's own assessment of the 
information that it believes would be necessary in reviewing a board of 
trade's petition, the proposed rules provide for a modified set of 
information that would be required in a petition. Additionally, the 
proposed rules contain certain provisions that are intended to 
eliminate the filing of duplicative information.
a. General Approach
    At the outset, the Commission wishes to reiterate its general view 
that it supports technological innovation and does not wish to make it 
unduly burdensome for U.S. customers to access global future and option 
markets. The Commission does believe, however, that in order to make 
the determinations required before it can issue an order under section 
4(c) of the Act concerning the public interest, customer protection and 
its ability to discharge its regulatory duties, the Commission has an 
obligation to obtain and to review certain basic information. This 
basic information relates to, among other things, a board of trade's 
regulatory structure, its automated trading systems, and the extent of 
its contacts and operations in the U.S. Likewise, in an era where fully 
computerized exchanges are becoming common, the Commission has an 
interest in ensuring that operators of these exchanges are not using 
developments in technology and global communications to evade U.S. 
regulatory requirements.
    Generally, as noted above, section 4(a) of the Act requires that 
futures and option contracts offered or sold in the U.S. be: (1) Traded 
on or subject to the rules of a designated contract market; (2) 
executed or consummated by or through a member of such contract market; 
and (3) evidenced by a written record that includes the date, the 
parties and their addresses, the property covered and its price, and 
the delivery terms. An exception from these requirements is provided 
for contracts that are made on or subject to the rules of a board of 
trade located outside of the U.S. or for which the Commission has 
granted an exemption from the section 4(a) requirements pursuant to 
section 4(c) of the Act. The Commission believes that, if contracts of 
a board of trade otherwise primarily operated outside of the U.S. are 
accessible from within the U.S. via a DES or an AORS, the board of 
trade is no longer ``located outside of the U.S.'' for purposes of 
section 4(a) of the Act. The Commission also believes, however, that 
regulating boards of trade that satisfy the requirements set forth 
below would be largely duplicative of their home country regulations 
and unnecessary. Thus, the Commission proposes to establish an 
exemption process.
    Proposed Rule 30.11 would establish a framework for the 
consideration of petitions for exemption pursuant to section 4(c) of 
the Act for boards of trade otherwise primarily located outside of the 
U.S. section 4(c) of the Act requires the Commission to make certain 
determinations prior to granting an exemption thereunder. In the 
context of a petition under Rule 30.11, the Commission would be 
required to determine that: (1) The requirements of Section 4(a) of the 
Act should not apply to the contracts for which the exemption is 
requested and the exemption would be consistent with the public 
interest and the purposes of the Act; (2) the

[[Page 14165]]

contracts will be entered into solely between appropriate persons; and 
(3) the contracts will not have a material adverse effect on the 
ability of the Commission or any contract market to discharge its 
regulatory or self-regulatory duties under the Act. As noted above, the 
standards that will guide the Commission in determining whether a 
petitioner meets the requirements under section 4(c) of the Act are 
that: (1) The petitioner is an established board of trade that wishes 
to place within the United States an automated trading system 
permitting access to its products but whose activities are otherwise 
primarily located in a particular foreign country that has taken 
responsibility for regulation of the petitioner; (2) the petitioner's 
home country has established a regulatory scheme that is generally 
comparable to that in the U.S. and provides basic protections for 
customers trading on markets and for the integrity of the markets 
themselves; (3) except for certain incidental contacts with the U.S. 
the petitioner is present in the U.S. only by virtue of being 
accessible from within the U.S. via its automated trading system; (4) 
the petitioner is willing to submit itself to the jurisdiction of the 
Commission and the U.S. courts in connection with its activities 
conducted under an exemptive order; (5) the petitioner's automated 
trading system has been approved by the petitioner's home country 
regulator following a review of the system that applied the standards 
set forth in the 1990 International Organization of Securities 
Commissions (``IOSCO'') report on screen-based trading systems (as may 
be revised and updated from time-to-time) or substantially similar 
standards; and (6) satisfactory information sharing arrangements are in 
effect between the Commission and the petitioner and petitioner's 
regulatory authority.
b. Statutory Standards for Exemptive Relief under Section 4(c)
    As noted above, section 4(c) of the act provides the Commission 
with authority ``by rule, regulation or order'' to exempt ``any 
agreement, contract or transaction'' from any of the requirements of 
section 4(a) of the Act, if the Commission determines that the 
exemption would be consistent with the public interest and that the 
contracts would be entered into solely by appropriate persons and would 
not have a material adverse effect on the ability of the Commission or 
any contract market to discharge its regulatory or self-regulatory 
duties under the Act.
    As discussed more fully below, the Commission has crafted standards 
to apply in evaluating exemptive petitions under the proposed rules 
that will enable it to make the requisite findings under section 4(c) 
if appropriate. If a petitioner is subject to a regulatory structure in 
its home jurisdiction that the Commission finds to be generally 
comparable to that in the U.S. in terms of protecting customers and the 
integrity of markets, as well as meeting IOSCO standards or similar 
standards for screen-based trading, and finds that the regulator in 
that other jurisdiction monitors and enforces compliance with that 
regulatory structure, the Commission appropriately can determine that 
automated trading by U.S. customers pursuant to that foreign regulatory 
structure is consistent with the public interest and the purposes of 
that Act. the Commission appropriately could permit anyone who can 
participate in contract market transactions to be deemed to be an 
``appropriate person'' for such automated trading and thus to be 
eligible to participate in the petitioner's markets. Further, the 
various provisions that the Commission would establish under Rule 30.11 
with regard to information sharing arrangements (access to books and 
records, notice of enforcement or disciplinary actions and notice of 
default, insolvency or bankruptcy), the petitioner's appointment of an 
agent for service of process and consent to U.S. jurisdiction, the 
Commission's retention of antifraud authority concerning these 
transactions, as well as the limitations on the petitioner's U.S. 
presence to DESs or AORSs that provide access to its products and 
incidental U.S. contacts, would provide a basis for the Commission to 
determine that granting the petition would not have a material adverse 
effect on the ability of the Commission or any contract market to 
discharge its regulatory duties under the Act. A more detailed 
description of the requirements for a petition follows.
c. Foreign Regulatory Requirements
    The Commission believes that the establishment of automate trading 
systems in the U.S. that provide rapid and proximate access to boards 
of trade otherwise primarily located outside the U.S. will cause a 
fundamental change in the nature of global trading and raise 
substantial issues regarding the regulation of increasingly 
international or multinational exchanges. Thus, the Commission believes 
that one essential factor in determining whether an automated board of 
trade that wishes to establish trading systems in the U.S. should be 
exempt from contract market designation is whether such board of trade 
is subject to a bona fide regulatory system i.e., a structure that is 
generally comparable to that in the U.S. in terms of customer 
protections and market integrity and that is adequately monitored and 
supervised by a foreign futures authority.
    To assist the Commission in making the required determinations 
under Section 4(c) of the Act and the judgments concerning the general 
standards set forth above, the Commission is proposing that a 
petitioners submit certain information. With respect to whether the 
petitioner is an established board of trade primarily operating outside 
the U.S., the petitioners would be required to include the following 
basic business information: (1) The address of the petitioner's main 
business office and the name, address, telephone number, facsimile 
number and electronic mail address of a person to contact for 
additional information concerning the petition; (2) the petitioner's 
articles of association, constitution, or other similar organizational 
documents along with the date and place of its establishment; (3) the 
name and address of the petitioner's home country regulatory; and (4) a 
complete description of the contracts that initially would be traded 
through DESs and/or AORSs located in the U.S.\22\
---------------------------------------------------------------------------

    \22\ Proposed Rule 30.11(b)(2)(i)-(iii).
---------------------------------------------------------------------------

    In order for a petitioner to be eligible for an exemption, 
petitioner's home country regulatory regime should be generally 
comparable to that in the U.S. in providing for: (A) Prohibition of 
fraud, abuse and market manipulation relating to trading on the 
petitioner's markets; (B) recordkeeping and reporting by the 
petitioners and its members; (C) fitness standards for intermediaries 
operating on petitioner's markets, members or others; (D) financial 
standards for the petitioner's members; (E) protection of customer 
funds, including procedures in the event of a clearing member's default 
or insolvency; (F) trade practice standards; (G) rule review or general 
review of board of trade operations by its regulatory authority; (H) 
surveillance, compliance, and enforcement mechanisms employed by the 
board of trade and its regulatory authority to ensure compliance with 
their rules and regulations; and (I) regulatory oversight of clearing 
facilities.\23\ Information concerning the petitioner's rules, 
including its membership rules, the laws and regulations of the home

[[Page 14166]]

country applicable to the petitions and its operations, and the 
mechanisms available for ensuring compliance with all such rules, laws 
and regulations should be provided in the petition. The Commission 
would review such information in order to determine whether it is 
consistent with the public interest, customer protection and its 
ability to discharge its regulatory duties to issue an order under 
section 4(c) of the Act to permit U.S. customer access to petitioner's 
products from automated systems within the U.S.
---------------------------------------------------------------------------

    \23\ Proposed Rule 30.11(b)(2)(iv)-(vi).
---------------------------------------------------------------------------

    In response to the Commission's request for comment concerning ways 
to avoid the filing of unnecessarily duplicative information with the 
Commission, several commenters argued that, if a petitioner or its 
regulator has received an exemption from the Commission pursuant to 
Commission Rule 30.10, the petitioner should not be required to submit 
duplicative information to the Commission. The Commission agrees that, 
if a petitioner or a regulatory authority that governs the petitioner 
has received an exemption under Rule 30.30, the Commission may already 
have received much of the information referred to above. Accordingly, 
the proposed rules provide that, in such a case, a petitioner would not 
be required to submit its organizational documents, its current rules, 
and the information concerning the regulatory scheme in the 
petitioner's home country, if such information was provided to the 
Commission as a basis for the Rule 30.10 exemptive order and remains 
the same in all material respects and if the petitioner provides a 
statement in its petition to this effect that also specifies the 
date(s) the information was provided and the name of the petitioner who 
received the Rule 30.10 order.\24\ Such a petitioner, however, would be 
required to provide all other information set forth in the rules unless 
a particular provision of the rules provides to the contrary. It should 
be noted that it is only where the information as to a particular board 
of trade's regulatory and self-regulatory program has previously been 
provided to the Commission under Rule 30.10 that a petitioner under 
Rule 30.11 need not provide all required information. Only where 
provision of information would, in fact, be duplicative may a 
petitioner rely on information provided in a prior Rule 30.10 
application.\25\
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    \24\ See proviso to proposed Rule 30.11(b)(2)(vi).
    \25\ If a petitioner is aware that another board of trade in its 
home jurisdiction has recently provided information to the 
Commission in a petition that, in fact, duplicates specific 
information that would be required in the petitioner's petition, the 
petitioner may, in its petition, request that it not be required to 
include such duplicative information.
---------------------------------------------------------------------------

    The Commission wishes to emphasize that it remains very concerned 
about, and committed to, the protection of the positions and funds of 
U.S. customers who trade on boards of trade whose primary locus of 
operations is outside the U.S. Any U.S. customer who trades on such 
boards of trade may face additional risks, as various Commission-
mandated risk disclosure statements make clear. There may also be an 
impact even on customers who do not themselves trade on such boards of 
trade, but have their accounts carried at FCMs that clear trades for 
other customers who do. The recent financial failure of Griffin Trading 
Company has heightened the Commission's concern in this area. Although 
the Commission recognizes that the events leading to Griffin's 
insolvency began on automated trading systems outside of the U.S., the 
Commission believes that this incident should serve as a reminder of 
the importance of establishing and enforcing trading and credit limits, 
rules to address the insolvency of intermediaries, and methods to 
transfer accounts of non-defaulting customers when there is a customer 
default. The protection of customer funds remains one of the 
Commission's major goals in its regulatory regime.
    In light of the issues raised by the failure of Griffin, the 
Commission is considering the appropriateness of adopting a provision, 
in connection with its rules concerning automated trading systems, that 
would require that the automated order matching/execution system of 
contract markets, linked exchanges or boards of trade operating 
pursuant to proposed Rule 30.11 exemption orders have the ability to 
provide pre-execution credit and trading or position limit screening. 
The Commission's intention would be to insure that DESs could not be 
used to execute trades in violation of give-up or clearing agreements 
with credit and trading or positions limits. (This is to be 
distinguished from the trading or credit checks performed by FCMs' or 
Rule 30.10 firms' AORSs.) The Commission is not including such a 
requirement in these proposed rules, but requests comment on the 
appropriateness of such a requirement.
d. Technological Systems and Standards
    The Commission's concept release also requested comment concerning 
what information should be requested regarding the technological 
systems and standards related to a petitioner's automated trading 
systems. The concept release suggested that this information could 
include a discussion of the petitioner's order processing system and 
its system integrity and architecture. Commenters varied in their 
suggested approaches to this issue. One commenter stated that 
petitioners should be required to provide information concerning their 
home country regulator's technological standards and suggested, by 
example, that a petitioner be required to specify whether such 
regulator has adopted the principles for screen-based trading set forth 
by IOSCO.\26\ Another commenter suggested that the Commission's rules 
should not require any review or inquiry concerning the technological 
features of a petitioner's systems unless special circumstances warrant 
such attention. This commenter stated further that, if the home country 
regulator has satisfied itself that a trading system meets or surpasses 
the standards set forth by IOSCO in its report, no purpose is served by 
the Commission requiring any further demonstration of compliance by the 
petitioner.
---------------------------------------------------------------------------

    \26\ These principles address the following topics:
    1. Compliance with applicable legal standards, regulatory 
policies, and/or market custom or practice where relevant;
    2. The equitable availability of accurate and timely trade and 
quotation information;
    3. The order execution algorithm used by the system;
    4. Technical operation of the system that is equitable to all 
market participants;
    5. Periodic objective risk assessment of the system and system 
interfaces;
    6. Procedures to ensure the competence, integrity, and authority 
of system users and to ensure fair access to the system;
    7. Consideration of any additional risk management exposures 
pertinent to the system;
    8. Mechanisms to ensure that the information necessary to 
conduct adequate surveillance of the system for supervisory and 
enforcement purposes is available;
    9. Adequacy of risk disclosure, including system liability; and
    10. Procedures to ensure that the system sponsor, providers, and 
users are aware of, and will be responsive to, relevant regulatory 
authorities.
    See IOSCO report entitled ``Screen-Based Trading Systems for 
Derivative Products'' (June 1990).
---------------------------------------------------------------------------

    The Commission believes it is generally appropriate to respect the 
judgment of home country regulators in these matters and does not wish 
to conduct a de novo review of the technological decisions made by 
petitioning boards of trade. However, the Commission also believes that 
it has an obligation to assure that any system that will be accessed 
from within the U.S. is sufficiently sound (e.g., its architecture is 
sufficient to handle reliably the type and volume of transactions 
reasonably anticipated) and secure and provides fair access to U.S.

[[Page 14167]]

customers on a nondiscriminatory basis (i.e., U.S. customers are not 
placed at a competitive disadvantage to others trading on the system). 
These assurances are necessary in order for the Commission to determine 
that issuance of a section 4(c) exemption order would not be contrary 
to the public interest, would serve to ensure protection of U.S. 
customers and would not adversely affect the Commission's ability to 
discharge its regulatory duties.
    To address these concerns and the recommendations of commenters, 
the proposed rules would require that a petitioner state in detail in 
its petition the extent to which a technical review of the system at 
issue was performed by its home country regulator and identify the 
standards applied in that review. The petitioner would include a copy 
of any order or certification received from its home country regulator 
as a result of such review. If the home country regulator based its 
approval on a review conducted by a third-party, the petitioner should 
so indicate and discuss the qualifications of the party that performed 
the review and the standards applied.
    The petition would also be required to include a general 
description of the automated trading system operated by the board of 
trade, including at a minimum a general description of the architecture 
and security features of the system, information as to the length of 
time the particular system has been operating and a history of 
significant system failures or interruptions.\27\ Depending upon the 
nature of the technical review performed and the information received 
concerning the system's operating history, the Commission would 
determine what additional inquiry, if any, by the Commission is 
necessary and appropriate in reviewing the petitioner's request. The 
Commission adopted the IOSCO 1990 Principles on Screen-Based Trading as 
a formal Commission statement of regulatory policy and would use the 
IOSCO principles as guidelines for its review to determine whether the 
petitioner's automated system technology is sufficient to permit the 
Commission to issue a section 4(c) exemption order.\28\ In this regard, 
the petitioner would be required to describe any differences between 
the IOSCO principles and those that were used to perform the technical 
review.
---------------------------------------------------------------------------

    \27\ See proposed rule 30.11(b)(2)(viii).
    \28\ 55 FR 48670 (Nov. 21, 1990). IOSCO is currently undertaking 
a study to review the principles set forth in its 1990 report in 
light of new technological developments.
---------------------------------------------------------------------------

    To the extent that the information to be provided to the Commission 
would be the same for several boards of trade using a shared computer 
or for a board of trade that lists its products on another board of 
trade's automated trading system, only one of the boards of trade using 
the system or making its products available on such system in the U.S. 
would be required to provide the information regarding technological 
systems and standards. If a petitioner shares a computer system or 
platform with another board of trade that has not sought an exemption 
order and the petitioner has relied on the system analysis performed by 
the other board of trade's home country regulator, it would not be 
sufficient for the petitioner simply to state that it relied on such 
analysis. Rather, the petitioner would be responsible for obtaining and 
providing the Commission with information concerning the analysis 
performed by the other board of trade's home country regulator and for 
describing whether such analysis was consistent with the IOSCO 
principles. Additionally, if a board of trade does not include all or a 
portion of the information regarding the type of review that was 
performed on its system because the information has been or is being 
provided by another board of trade, the petitioner must include a 
statement to that effect in its petition and must identify the board of 
trade that has provided or is providing the information.
e. U.S. Activities
    Another possible information requirement outlined in the concept 
release concerned the petitioner's activities in the U.S. The concept 
release requested comment on whether to require a petitioner to provide 
information concerning its marketing, education, promotional or other 
activities in the U.S. including the address of, and number of persons 
employed by, any office maintained by the petitioner in the U.S., and 
the extent to which the board of trade makes information available on 
the Internet that may be relvevant to U.S. customers who wish to trade 
its products. Additionally, if the petitioner maintains a warehouse in 
the U.S. for any futures contracts that could involve physical delivery 
of the underlying commodity, the concept release suggested that the 
petitioner should provide the address for such warehouse and the stocks 
contain as of the date of the petition.
    Commenters generally agreed that the Commission has a legitimate 
interest in obtaining information to determine whether a board of 
trade's presence in the United States is more than incidental such that 
the board of trade should be required to obtain contract market 
designation. The Commission has determined to propose generally the 
submission of the information discussed in the concept release 
concerning a petitioner's U.S. activities.\29\ To qualify for an 
exemption order, petitioner's management, back office operations, order 
matching/execution facilities and clearing facilities would have to be 
located outside the U.S., as would all or the vast majority of its 
personnel. The presence of an office or offices in the U.S. might or 
might not be deemed to be incidental contact, depending on the size, 
purpose, and activities conducted by the office(s). The Commission will 
evaluate this issue based on the facts described in the petition.
---------------------------------------------------------------------------

    \29\ See proposed Rule 30.11(b)(2)(ix)-(xi).
---------------------------------------------------------------------------

    One commenter questioned the relevance of information concerning 
the address of warehouses in the U.S. and the stocks available at such 
warehouses. The Commission believes that the location of the underlying 
cash market and delivery points with respect to products traded through 
U.S.-located automated trading systems is a pertinent factor in 
examining the nature and extent of an exchange's activities in the U.S. 
Presence in the U.S. of some warehouse facilities would not itself 
render a petitioner ineligible for relief under these rules. 
Eligibility would depend on the nature of petitioner's U.S. activities 
taken as a whole.\30\
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    \30\ The proposed rules require petitioners to identify the 
addresses of any warehouses maintained in the U.S. for delivery of 
underlying commodities, but not to specify the stocks on hand at 
such warehouses. If a petition is granted, an exempted exchange must 
respond to any Commission requests for information about such 
stocks. See proposed Rule 30.11(d)(8).
---------------------------------------------------------------------------

f. Rules Concerning Access by U.S. Exchanges to Foreign Markets
    The concept release also requested comment on whether the 
Commission should require that the petitioner provide a statement from 
the regulatory authority in its home country with primary 
responsibility for oversight of the petitioner as to whether such 
regulator or any other body in that country imposes any restrictions or 
regulations regarding: (1) The placement or operation of U.S. exchange 
automated trading systems in the country; (2) the types of products 
permitted to be traded on such systems; and (3) the sale of U.S. 
exchange products, generally. If any such restrictions or regulations 
existed, the concept release suggested that the statement include a 
description of the restrictions or regulations, copies of any relevant 
statutes or other relevant legal

[[Page 14168]]

materials and a description of the application process, if any, 
required for a U.S. exchange and its members to place automated trading 
systems and/or to sell products in the petitioner's home country.
    Commenters generally were in favor of the Commission's collection 
of the information described above as a means of ensuring electronic 
access to markets globally. Commenters differed, however, regarding the 
role such information should have in the Commission's ultimate 
determination as to whether it should issue an order. Several 
commenters stated that an order should not be issued to a board of 
trade primarily located outside the U.S. unless similar electronic 
access is made available to U.S. exchanges by the board of trade's home 
country regulator. Other commenters warned that the Commission should 
not use the request for information concerning the electronic access 
rules of the petitioner's home country as a means to require, as a 
prerequisite to issuing an order, that a particular regulatory 
framework for allowing U.S. exchanges to place automated trading 
systems in the foreign jurisdiction be in effect in a foreign 
jurisdiction. Two commenters believed that the Commission should 
collect information concerning a foreign jurisdiction's rules and 
policies vis-a-vis a U.S. contract market's ability to place automated 
trading systems in the foreign jurisdiction, but should not deny 
electronic access to a board of trade solely on the basis that its home 
jurisdiction excludes the systems of U.S. exchanges. Rather, these 
commenters believed that the information should be considered as one 
element in the Commission's assessment of the entire petition. Another 
commenter stated its view that the issue of reciprocity should not be a 
significant factor in the Commission's determination as to whether to 
issue an exemption order because financial institutions in a country 
that does not provide electronic access ultimately will be harmed by 
such a policy, thus effectively forcing the country into developing 
regulations permitting access. One commenter also noted that any 
Commission regulations must be consistent with U.S. obligations under 
the General Agreement on Trade in Services (``GATS'') and any 
applicable annexes thereto.
    With respect to the GATS, Commission staff have held discussions 
with staff of the U.S. Department of Treasury (``Treasury'') and the 
Office of the U.S. Trade Representative (``USTR'') on this issue. 
Treasury and USTR staff have expressed to Commission staff their view 
that the Commission may not condition granting an order on reciprocity 
by the petitioner's home country without violating U.S. legal 
obligations under the GATS and North American Free Trade Agreement 
(NAFTA). Indeed, they have expressed concern that even a request for 
information such as that set forth in the concept release and described 
above might raise questions relating to U.S. obligations under the GATS 
and NAFTA.
    In light of Treasury's and USTR's view regarding U.S. legal 
obligations under the GATS and NAFTA, the Commission is not now 
proposing to impose a requirement that a particular partitioner's home 
country jurisdiction extend reciprocity to U.S. exchanges' automated 
trading systems, even though it had intended to do so. The Commission 
would welcome comment on this issue. Even if U.S. international 
obligations prevent the Commission from requiring reciprocity, the 
Commission strongly supports a policy of open and free access to global 
markets and is committed to aiding U.S. exchanges in gaining the right 
to place electronic systems in foreign jurisdictions. The Commission 
encourages any U.S. exchange that believes that it is being wrongfully 
prevented from placing its automated trading systems in foreign 
jurisdiction to inform the Commission of this concern. The Commission 
will work with the exchange, with the foreign jurisdiction, and with 
Treasury and/or USTR as appropriate to open such jurisdiction to U.S. 
exchanges and to resolve any dispute over unfair restrictions placed on 
U.S. exchanges.
g. Financial Information and Volume Data
    The concept release requested comment on a requirement to include 
in a petition the petitioner's most recent annual financial statements 
and the total trading volume, on a contract-by-contract basis and in 
the aggregate, for its most recent year and most recent quarter (or 
other period if data is not maintained on an annual and quarterly 
basis). Based upon the concerns of commenters regarding the relevance 
of the financial statements, the fact that the Commission does not 
require similar statements from contract markets and the fact that the 
Commission will review the minimum financial standards and clearing 
facility oversight in the petitioner's home country, the Commission has 
determined not to require financial statements from the petitioner in 
the proposed rules. Neither will the Commission require volume figures 
in a petition under Proposed Rule 30.11. The proposed rules, however, 
would require certain basic U.S. volume data to be reported to the 
Commission on a quarterly basis as a condition of a section 4(c) 
exemption order.\31\
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    \31\ See discussion of conditions of an order in Section 
III.B.2., below.
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h. Information Sharing
    The prevention of fraud and the protection of U.S. customers, 
including customer funds, remain major goals of the Commission's 
regulatory scheme. The Commission's ability to access information 
regarding trading by persons located in the U.S. that is conducted on a 
board of trade exempted under proposed Rule 30.11 is essential to 
achieving these goals. The concept release requested comment on a 
requirement that a petitioner identify any information sharing 
arrangement in effect among the relevant regulatory authorities and the 
Commission, including information concerning any blocking statutes or 
data protection laws in effect in the petitioner's home country that 
might impair the Commission's ability to obtain information under such 
arrangements. The commission has determined that the existence of 
satisfactory information sharing arrangements between the petitioner 
and the petitioner's regulator and the Commission is an essential 
prerequisite for an exemptive order under the proposed rules. Under 
such arrangements, the Commission and the petitioner and the 
petitioner's regulatory authority would agree to cooperate with respect 
to inquiries concerning trading on the petitioner's markets that 
affects U.S. persons or markets. Relevant information to be provided 
under such arrangements may include, without limitation, trade 
confirmation data, data necessary to trace funds related to trading 
futures and option products subject to regulation in the petitioner's 
home country, position data, data on a firm's standing to do business 
in the petitioner's home country, and a firm's financial condition. 
Mechanisms for cooperating with the Commission and the NFA in 
inquiries, compliance matters, investigations and enforcement 
proceedings must be established in the information sharing 
arrangements. Failure to maintain satisfactory information sharing 
arrangements could result in revocation of the Commission's order. 
Proposed Rule 30.11(d)(8) also provides that the Commission may seek 
information directly from the petitioner to evaluate the petitioner's 
continued eligibility for or compliance with the

[[Page 14169]]

conditions of a section 4(c) exemption or for any other reason.
i. Arrangements Among Multiple Exchanges
    The Commission envisions that its proposed rules would apply not 
only with respect to individual boards of trade that primarily are 
operated outside the U.S., but also in circumstances where the products 
of multiple boards of trade are traded through a single system. In such 
a case, each board of trade whose products would be made available 
through U.S.-located automated trading systems generally would be 
required to comply with the requirements set forth in the proposed 
rules. For example, if two or more boards of trade share the same 
system and each wishes to place DESs in the U.S. for its members' (or 
members' affiliates') use, each would be required to receive an order 
from the Commission prior to such placement. Similarly, if the products 
of one or more boards of trade are available through the DES of another 
board of trade, each board of trade whose products would be available 
in the U.S. through such DES would be required to receive a section 
4(c) exemption order. With respect to AORSs that provide U.S. customers 
with access to the products of multiple boards of trade, each board of 
trade whose products would be available through such device or software 
would have to comply with the rules and receive a section 4(c) 
exemption order before an FCM or a Rule 30.10 firm could allow its 
customers to enter trades on the board of trade via an AORS. In the 
examples discussed above, a petition to the Commission under the 
proposed rules could be made individually by each board of trade or 
jointly, provided that the Commission received all required information 
under the proposed rules with respect to each board of trade whose 
products would be made available electronically from within the U.S.
    In addition to the foregoing, the Commission appreciates that some 
boards of trade currently allow automated trading of their products 
from within the U.S. through mutual arrangements with designated 
contract markets or may in the future do so. In these cases, the 
arrangements are submitted to the Commission for its prior review as 
rule changes of the contract market. Because the Commission thus has 
the opportunity to examine each such arrangement, the proposed rules 
carve out an exception that would allow a board of trade primarily 
operating outside the U.S. to have its products traded through 
automated trading systems located in the U.S. without obtaining 
contract market designation and without receiving a section 4(c) 
exemption order if (1) the board of trade has entered into an 
electronic trading arrangement with a designated contract market which 
is submitted to the Commission for review and is in effect as a rule of 
the contract market and (2) the products of the board of trade that are 
traded in the U.S. through such trading systems are traded in 
accordance with such an arrangement. However, a board of trade that has 
entered into an electronic trading arrangement with a designated 
contract market would be required to receive a Commission order 
pursuant to these proposed rules if the board of trade planned to allow 
automated access to its products in any manner that would fall outside 
the arrangement with a U.S. contract market that has been submitted to 
the Commission for review.
    The Commission wishes to emphasize that, although a ``linked 
exchange'' would not be required to comply with these proposed rules if 
access to its products via automated trading systems from within the 
U.S. is limited to the terms of an arrangement with a designated 
contract market, a designated contract market that enters into such a 
linkage arrangement must submit a rule(s) describing the arrangement 
and the attendant rights and responsibilities of all parties involved 
in the arrangement to the Commission for approval. In reviewing such a 
rule submission, the Commission has applied and will continue to apply 
substantially the same standards as set forth herein modified as 
appropriate based on the exact nature of the linkage arrangement. Among 
other things, the Commission seeks assurances from the designated 
contract market that the arrangement will conform with the principles 
for screen-based trading set forth by IOSCO \32\ and evaluates what 
role the U.S. contract market would have in securing its members' 
compliance with the rules of the board of trade operating primarily 
outside the U.S. Additionally, the Commission will ensure that any 
rule(s) it reviews includes language requiring such a board of trade to 
subject itself to the jurisdiction of the Commission and U.S. courts 
regarding its activities under the linkage arrangement.
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    \32\ See supra note 26.
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j. Public Availability of Petitions
    The concept release asked for comment on whether petitions received 
should routinely be published in the Federal Register for public 
comment. After reviewing the comments and in light of the nature of the 
petition process that would be established by the proposed rules, the 
Commission believes that, as a general matter, it would be beneficial 
to provide public notice of petitions. Accordingly, pursuant to section 
4(c) of the Act, paragraph (e) of proposed Rule 30.11 provides that the 
Commission will publish a ``notice of availability'' in the Federal 
Register upon receipt of any petition. The notice of availability would 
contain a general description of the information discussed in the 
petition and the exemption sought by the petitioner. Interested parties 
would thus be aware of each petition and would have the opportunity to 
request information concerning the petition from the Secretariat of the 
Commission. The proposed rule further provides that the Commission may, 
upon the request of a petitioner, limit the public availability of 
information included in its petition if the Commission determines that 
such information constitutes a trade secret or that public disclosure 
would result in material competitive harm to the petitioner.
2. Conditions of an Order
    If all standards for exemptive relief are met, exemptive orders 
under proposed Rule 30.11 would be issued subject to certain 
conditions. The concept release set forth a number of potential 
conditions that would be included in each Commission order. The 
Commission believes that it generally would be helpful to go further 
and provide in its rules a list of conditions that will apply 
automatically to each Commission order, unless a particular order 
indicates otherwise. In light of the comments received on the concept 
release, the Commission is proposing conditions that vary in certain 
respects from those discussed in the concept release. These conditions 
are intended to aid the Commission to fulfill certain basic goals of 
its rulemaking: (1) To ensure protections for U.S. customers and (2) to 
ensure that the Commission has ongoing access to data to ensure the 
continued appropriateness of the Commission's 4(c) exemption order. The 
conditions that are proposed to be included automatically in each 
Commission order are as follows:

    1. Only memebers of the board of trade that received a 
Commission exemptive order and their affiliates may have access to 
DESs, and the board of trade will not provide, and will take 
reasonable steps to prevent third parties from providing DESs to any 
other persons;

[[Page 14170]]

    2. Unless otherwise exempt from registration, any member or 
affiliate thereof that solicits or accepts orders for, or accepts 
money, securities or property in connection with the purchase or 
sale of, foreign futures or foreign options by a foreign futures or 
foreign options customer via a DES or an AORS must be a registered 
FCM or a Rule 30.10 firm;
    3. The board of trade that received the exemptive order must 
notify the Commission in writing within 30 calendar days of (a) any 
material changes in the information provided in its petition to the 
Commission and any changes in its rules or in the laws or rules of 
its home country that may have a material impact on the order, (b) 
any known violation by a member (or its affiliate) of the 
Commission's order; and (c) any disciplinary action taken against a 
member (or its affiliate that involves any market manipulation, 
fraud, deceit or conversion or that results in the member's 
suspension or expulsion \33\ and that involves the use of a DES or 
an AORS in the U.S., provided, however, that the board of trade must 
notify the Commission at least ten business days prior to allowing 
any new products (i.e., products other than those discussed in its 
petition) to be traded through DESs or AORSs located in the U.S. and 
within 24 hours of any significant system failure or interruption or 
a member's default, insolvency or bankruptcy; \34\
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    \33\ See, e.g., Rule 1.63(a)(6)(ii) (defining disciplinary 
offense for purposes of the Commission's rule concerning service on 
SRO governing boards by persons with disciplinary histories to 
include any violation of SRO rules that involves fraud, deceit or 
conversion or results in suspension or expulsion).
    \34\ Although the proposed rules would require that the 
Commission be notified if a board of trade operating under an 
exemption order intends to allow automated access to new products 
through DESs or AORSs located in the U.S., the proposed rules 
generally would not require any type of pre-approval process. 
However, as previously noted, the proposed rules would not alter a 
board of trade's obligations: (a) To receive a no-action position 
from the Commission prior to engaging in the offer or sale of any 
stock index futures or option contracts in the U.S. or (b) to have 
any foreign government debt obligation designated as an ``exempt 
security'' by the SEC before engaging in the offer or sale of any 
futures contract or option thereon in the U.S. section 2(a)(1)(B)(v) 
of the Act states generally that no person shall offer or enter into 
a contract of sale for future delivery of any security except an 
``exempt security'' under Section 3 of the Securities Act of 1933 or 
section 3(a)(12) of the Securities Exchange Act of 1934.
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    4. Satisfactory information sharing arrangements must remain in 
effect between the Commission and the petitioner and the 
petitioner's regulatory authority;
    5. The board of trade that received the order must provide to 
the Comission, on a quarterly basis and at any other time upon the 
request of a Commission representative, a current list that (a) 
identifies and provides the main business addresses in the United 
States for those of its members and affiliates thereof that have 
DESs in the United States and indicates which of such members and 
affiliates thereof allow the use of AORSs by foreign futures and 
foreign options customers and (b) identifies and provides the main 
business addresses for those of its members and affiliates thereof 
that allow the use of AORSs by foreign futures and foreign options 
customers, but who do not have DESs in the U.S.;
    6. Prior to operating pursuant to the Commission order, the 
board of trade that received the order must file with the 
Commission, and maintain thereafter as long as it operates pursuant 
to the order, a valid and binding appointment of an agent for 
service of process in the United States, pursuant to which such 
agent is authorized to accept delivery and service of communications 
issued by or on behalf of the Commission, the Department of Justice, 
any member of the board of trade or affiliate of such member, or any 
foreign futures or foreign options customer. Service or delivery of 
any communication issued by or on behalf of any of the foregoing, 
pursuant to such appointment, shall constitute valid and effective 
service or delivery.
    7. Prior to operating pursuant to the Commission order, the 
board of trade that received the order must file with the Commission 
a written representation, executed by someone with authority to bind 
the board of trade, stating that, as long as the board of trade 
operates pursuant to the order, the board of trade irrevocably 
agrees to and submits to the jurisdiction of the Commission and 
state and federal courts in the United States with respect to the 
board of trade's activities conducted under the exemption order; and
    8. The board of trade that received the order must provide the 
Commission with quarterly reports indicating with respect to each 
contract available to be traded from within the U.S. via DESs or 
AORSs (a) the total volume originating from DESs or AORSs located in 
the U.S. and (b) the total worldwide trade volume on the board of 
trade. If applicable, the board of trade also must provide reports 
upon request indicating the stocks held at any warehouse maintained 
by it in the U.S. for products that require physical delivery.

    A significant issue raised in the concept release concerned the 
extent to which the Commission should look to the volume of a 
petitioner's contracts transacted by U.S. persons in determining 
whether such petitioner should be issued an exemption order under these 
proposed rules. The majority (although not all) of the commenters on 
this issue believed that the Commission should not use a volume test as 
the sole means to determine whether a board of trade should be eligible 
for a Commission order. Commenters varied, however, in their views as 
to the extent, if any, to which U.S. volume data should play a role in 
this determination. The Commission agrees with those commenters who 
suggested that adopting a particular percentage of volume within the 
U.S. beyond which a board of trade would be required to receive 
contract market designation could serve to inhibit the development of 
new products that might appeal to U.S. users and could prove difficult 
to manage because volume potentially can vary greatly from one 
reporting period to the next. Thus, the Commission is not proposing any 
fixed percentage. However, the Commission believes that trade volume 
from within the U.S. is relevant in assessing whether a board of 
trade's contacts in the U.S. are so extensive that it should be 
required to be designated as a contract market and that a quarterely 
report that indicates a board of trade's volume of U.S. transactions in 
each contract and the total number of transactions worldwide in each 
contract would be beneficial to the Commission in obtaining a complete 
picture of the board of trade's U.S. activities. Accordingly, the 
Commission has determined to include in its proposal a periodic U.S. 
volume reporting requirement that would be included as a condition to 
each order issued under the proposed rules. The Commission believes 
that the volume data that would be required under the proposed rules, 
while relevant and helpful to the Commission, should not impose a 
significant burden. Specifically, as noted above, the proposed rules 
would require that a board of trade that received a Commission order 
provide a report to the Commission on a quarterly basis that indicates 
the total volume in each of its contracts that originates from 
automated trading systems in the U.S. (whether from DESs or AORSs) and 
the total volume of transactions in such contracts worldwide (including 
the U.S.). This information would be provided for each contract traded 
on DESs or AORSs from within the U.S.
    Another issue raised in the concept release concerned a potential 
requirement for a biennial on-site review of the operations of members 
(and their affiliates) operating in the U.S. under a Commission order. 
The Commission has determined not to require a separate on-site review. 
As one commenter pointed out, any member or affiliate thereof that uses 
a DES to trade on behalf of U.S. customers pursuant to a Commission 
issued order would have to be registered as an FCM and would be subject 
to periodic audits by the Commission and its designated self-regulatory 
organization (``DSRO'') (i.e., U.S. contract market or NFA). The 
Commission does not believe that it is necessary to require an 
additional review under these rules. Rather, it anticipates that the 
DSRO's audit procedures would be extended to encompass a review of 
compliance with the Commission's new rules, and orders

[[Page 14171]]

issued thereunder, when adopted and issued.
    The Commission wishes to make clear that the above list of 
conditions that will automatically apply under the proposal would not 
necessarily be exhaustive. For clarity's sake, each order likely would 
reiterate the conditions that are imposed automatically by the rules. 
However, as the rules state, the ``default'' or automatic conditions 
would apply even if not contained in an order, unless explicitly 
excluded therefrom. Additionally, a petitioner must include in its 
petition a written statement in which it consents to or agrees to 
comply with each of the conditions should the Commission issue the 
petitioner a Rule 30.11 exemption order.\35\ Thus, consent or agreement 
to comply with the conditions also would be a prerequisite to the 
Commission's issuance of an order under these rules.
---------------------------------------------------------------------------

    \35\ See proposed rule 30.11(b)(2)(xii).
---------------------------------------------------------------------------

    The Commission would be free to subject any order to other 
conditions that the Commission believes to be necessary or appropriate. 
In addition, under paragraph (f) of proposed Rule 30.11, the Commission 
would retain the authority to condition further, modify, suspend, 
terminate or otherwise restrict the terms of an order as they apply 
either to a specific person operating thereunder or to the order in its 
entirety. The Commission might determine to take such action, for 
example, if the Commission found that the board of trade that received 
the order, or an entity operating in the U.S. based on the order, 
materially violated a stated condition of the order, that the 
activities, operations and trading of the board of trade that received 
the order no longer justified the order, or that continuation of the 
order otherwise would be contrary to the Act, public policy or the 
public interest.
3. Rules Concerning Automated Order Routing Systems
a. AORS Definition
    As noted above, the Commission is proposing to adopt a definition 
of the term ``automated order routing system'' in a new paragraph (tt) 
of Commission Rule 1.3, which contains the Commission's general 
definitions and thus would apply to U.S. designated contract markets in 
addition to boards of trade granted a Commission order under proposed 
Rule 30.11 and linked exchanges. The definition of an AORS is any 
system of computers, software or other devices that allows entry of 
orders through another party for transmission to a board of trade's 
computer or other automated device where, without substantial human 
intervention, trade matching or excution takes place. ``Entry of 
orders'' for an AORS could be via a screen-based or other automated 
system. A customer who telephones an order to an employee of an FCM or 
Rule 30.10 firm would not be entering an order for purposes of these 
rules, and the AORS definition would not apply. The definition of AORS 
and the requirements relating thereto would apply to orders for and 
customer or foreign futures or options customer, although order entry 
itself could be made by the customer or by a person designated by the 
customer to enter orders on its behalf, e.g., a CTA.
    As described more fully below, under Proposed Rule 1.71(a), if a 
customer or foreign futures or foreign options customer uses an AORS to 
transmit an order to an FCM or Rule 30.10 firm, such AORS must be a 
``qualified'' AORS and satisfy certain minimum requirements specified 
in proposed rule 1.71(b). Further, under proposed rule 30.3 (d), AORSs 
can only be used to access designated contract markets, boards of trade 
that have received an exemption under Proposed Rule 30.11 or linked 
exchanges.
    The qualification requirements of Proposed Rule 1.71 do not apply 
to orders transmitted via an AORS if such orders are proprietary orders 
of the receiving firm, of if they are transmitted by a registered FCM 
to another firm for any proprietary account or customer omnibus account 
of the FCM. Systems transmitting such orders still fall within the 
definition of AORS, however, and therefore Proposed Rule 30.3(d) 
requires that such orders be directed to a contract market, a Rule 
30.11 exempt board of trade or a linked exchange.
    There are a number of possible permutations in how a particular 
order may be transmitted from a customer or an FCM for eventual 
execution on an automated board of trade, and it is important to 
examine each step of a particular transaction to determine what 
requirements apply. For example, if a customer telephoned an order to 
an employee of a U.S. FCM, who then entered the order into a system 
linked directly to an automated board of trade of which it was member, 
the second step of the transaction would involve the use of a DES, and 
under proposed Rule 30.3(c), the board of trade for which the order was 
placed must be a designated contract market, a Rule 30.11 exempt board 
of trade, or a linked exchange. If the same customer used a system that 
satisfied the definition of an AORS to send an order to an FCM (or Rule 
30.10 firm) for transmission to an automated board of trade, such AORS 
would have to be a qualified AORS and satisfy the requirements of 
Proposed rule 1.71(b). Under proposed Rule 30.3(d), the board of trade 
for which the order was placed would have to be a designated contract 
market, a Rule 30.11 exempt board of trade, or a linked exchange.
    If a foreign futures options customer telephoned an order to an 
employee of an FCM and the FCM, using its customer omnibus account, 
were to take the order and transmit it electronically to another FCM, a 
Rule 30.10 firm or a firm otherwise exempt from registration as an FCM 
\36\ for transmission into an automated board of trade, transmission of 
the order from the customer's FCM through the other firm for execution 
would constitute use of an AORS. Accordingly, under proposed Rule 
30.3(d), the board of trade for which the order was placed must be a 
Rule 30.11 exempt board of trade or a linked exchange. The AORS used by 
the customer's FCM in this example would not have to be a qualified 
AORS that meets the credit check and other requirements of proposed 
Rule 1.71, however, because its use was by an FCM for a customer 
omnibus account.
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    \36\ See supra note 20.
---------------------------------------------------------------------------

    Where a non-clearing member of a board of trade operating under a 
Rule 30.11 exemption order or of a linked exchange uses an automated 
device directly to access the board of trade's automated order matching 
engine and there is a post-trade give-up for clearing to an FCM or a 
Rule 30.10 firm, this would be treated as use of a DES rather than an 
AORS under the proposed rules. The requirements of proposed Rule 1.71 
therefore would not apply.\37\ However, an FCM or Rule 30.10 firm must 
bear in mind that, if the non-clearing member used an automated device 
to route an order through the FCM or Rule 30.10 firm prior to the 
order's transmission to the matching/execution engine of the board of 
trade, this would be treated as use of an AORS by the non-clearing 
member customer, and the AORS therefore would have to be a qualified 
AORS and to satisfy the requirements of proposed Rule 1.71, unless the 
non-clearing member is itself an FCM or has a proprietary relationship 
to the FCM receiving the order.
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    \37\ The firm carrying the account generally would have to be a 
registered FCM or Rule 30.10 firm.
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b. Requirements for Qualified AORSs
    Proposed Rule 1.71 would set forth very basic standards that must 
be met by a qualified AORS. If these minimum requirements are 
satisfied, there would

[[Page 14172]]

be no restriction upon the type of customer that could use the AORS, 
e.g., no minimum net worth standards, and no restrictions upon the type 
of data that may be displayed to the customer. The AORS must be limited 
to exchange trading only, either on a designated contract market, an 
exchange linked to such a contract market or a board of trade that 
receives an exemption order in accordance with proposed Rule 30.11.\38\
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    \38\ An AORS could also provide access to trading in cash 
markets, securities markets, or CEA-exempt hybrid markets, if such 
trading is consistent with all applicable laws and regulations. 
Trading of swaps via AORSs would not be permissible under the 
current Commission exemption for swaps, which prohibits the use of 
multilateral transaction execution facilities for swaps trading, 
see, e.g., Rule 35.2(d), and thus would not be permissible under 
proposed Rule 1.71.
---------------------------------------------------------------------------

    A qualified AORS may only provide access for a customer or a 
foreign futures or foreign options customer to products that can 
lawfully be offered to or entered into by U.S. persons. Thus, for 
example, if there were a futures contract traded on a board of trade 
with a Rule 30.11 exemption order (or a linked exchange) involving a 
foreign stock index or a foreign government's sovereign debt 
instruments that had not received the requisite clearances, the futures 
contract could not lawfully be offered or sold to U.S. persons. The FCM 
(or Rule 30.10 firm, as applicable) should also exercise due diligence 
to verify that use of an AORS is permissible under, and undertaken in 
accordance with, the rules of the relevant contract market, board of 
trade that received a Rule 30.11 exemption order, or linked exchange.
    For trading through an FCM, a qualified AORS would be required to 
provide all information required by Commission Rule 1.35(a-1)(1) 
concerning identification of customer orders, except that order-related 
times would have to be captured to the nearest second. The proposed 
requirement for timing to the nearest second is consistent with the 
Commission's previous advisory concerning recordkeeping requirements 
for electronic order-routing systems.\39\
---------------------------------------------------------------------------

    \39\ 62 FR 7675, at 7677 (Feb. 20, 1997).
---------------------------------------------------------------------------

    The Commission believes that the use of AORSs may be beneficial for 
customers and FCMs in terms of convenience and efficiency. However, 
these systems are not infallible or without serious risk. The 
Commission is concerned that, due to the speed and the uninterrupted 
nature of an automated device, an error, if one should occur, could be 
very large in magnitude and impact and thus potentially could pose a 
significant risk to customers, to the integrity of the FCM and to the 
marketplace in general if the AORS does not contain appropriate 
safeguards. Commission Rule 1.16 requires, among other things, that an 
FCM have in place appropriate internal accounting controls and 
procedures for safeguarding customer and firm assets.\40\ However, that 
rule does not prescribe specific controls that must be in place. The 
Commission believe that it is appropriate to mandate that certain 
specific, minimum controls be present in any qualified AORS. These 
minimum safeguards do not supplant or replace an FCM's duties under 
Rules 1.16 and 166.3 and other applicable regulations, concerning 
proper internal controls and supervision of employees and accounts. 
Rather, they are minimum standards that should be implemented in 
addition to other appropriate controls employed by FCMs regarding 
AORSs.
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    \40\ In particular, Rule 1.16(d)(1) requires that the scope of 
the FCM's annual audit, review of the accounting system and 
procedures for safeguarding customer and firm assets be ``sufficient 
to provide reasonable assurance that any material inadequacies 
existing at the date of the examination in (i) the accounting 
system, (ii) the internal accounting controls, and (iii) the 
procedures for safeguarding customer and firm assets . . . will be 
discovered.'' A material inadequacy is defined generally in Rule 
1.16(d)(2) to include, among others, ``any conditions which 
contributed substantially to or, if appropriate corrective action is 
not taken, could reasonably be expected to . . . (r)esult in 
material financial loss(.)'' See also, Commission Rule 166.3, which 
governs an FCM's general supervisory duty with respect to handling 
of accounts.
---------------------------------------------------------------------------

    Proposed Rule 1.71(b)(3) requires generally that an FCM or Rule 
30.10 firm take reasonable steps to ensure that its system is and 
remains sound and secure and generally fit for its intended purpose. 
Proposed Rule 1.71(b)(5) provides that a qualified AORS must contain at 
a minimum checks that verify that any credit and trading or position 
limits for the account (as established by the FCM or Rule 30.10 firm) 
are not exceeded.\41\ Such checking could be performed manually or by 
the system itself on an automated basis. If these checks are automated, 
the FCM or Rule 30.10 firm must implement proper internal controls to 
ensure that limits appropriate to each customer or foreign futures or 
foreign options customer, as determined by personnel authorized to set 
such limits, are properly input into the AORS and updated as 
appropriate. The Commission is also proposing, in proposed Rule 
1.71(b)(6) and (b)(7), that a qualified AORS must provide: (1) An FCM 
or Rule 30.10 firm, on a unilateral and immediate basis, with the 
capability to block use of an AORS if, for example, the firm determines 
that its security or the security of any contract market, linked 
exchange or board of trade operating pursuant to a Rule 30.11 exemption 
order may be adversely affected by use of the AORS and (2) reasonable 
precautions to ensure against unauthorized access, unauthorized trading 
and unauthorized disclosure of customer or foreign futures or foreign 
options customer orders \42\ and to provide overall integrity and 
security of the AORS.
---------------------------------------------------------------------------

    \41\ This proposed rule is consistent with conditions currently 
placed on customers of the CME who may transmit Globex orders to 
FCMs via the Internet. By letter to the CME dated August 14, 1997, 
the Division, under authority delegated by the Commission in Rule 
1.41(a)(3), informed the CME that its proposal to permit customers 
to transmit Globex orders to FCMs via the Internet did not require 
Commission approval under section 5a(a)(12) of the Act. Under CME's 
proposal, customers do not have direct access to Globex. Rather, the 
proposal permits CME clearing members to accept customer orders via 
the Internet. After receipt of a customer order, the order is 
transmitted to Globex via the clearing member's order routing system 
and CME's computer-to-computer interface (``CTCI''), which enables a 
clearing member to upload and download orders between the member's 
order routing system and Globex. A CME clearing member may use CME's 
CTCI only if (1) the member's order routing system contains 
automated credit controls or position limits or (2) customer orders 
received by a member through its order routing system are subject to 
manual review and processing by a clearing member employee prior to 
being entered into a Globex terminal.
    \42\ See Commission Rule 155.3(b)(1).
---------------------------------------------------------------------------

    With respect to recordkeeping, the Commission is proposing that a 
qualified AORS must enable an FCM to download trade history on each 
order entered through the system on a daily basis and otherwise to 
maintain records related to such orders in accordance with Commission 
Rule 1.31.\43\ To assure system integrity and appropriate trade data, 
any and all modifications to or cancellations of an order must be 
recorded. In addition, the Commission is proposing to require an FCM to 
maintain a record of accounts for which it will accept or transmit for 
execution orders that have been entered through an AORS. This record 
shall also include the name of any person designated by a customer or a 
foreign futures or foreign options customer to exercise control over 
the trading decisions for the account and shall be maintained in 
accordance with Commission Rule 1.31.\44\ A Rule 30.10 firm should 
maintain records in accordance with the

[[Page 14173]]

requirements of its home country regulator, which would then be 
available to Commission or NFA representatives under appropriate 
information sharing arrangements.
---------------------------------------------------------------------------

    \43\ See proposed Rule 1.71(b)(8).
    \44\ Proposed Rule 1.71(c). The records of third-party account 
controllers, like all books and records required to be kept by the 
Act or rules thereunder, must be readily accessible during the first 
two years of the required five-year retention period under Rule 
1.31. Commission staff have sometimes experienced difficulty in 
obtaining this information on existing accounts. Such information is 
required by Rule 1.37 and is generally maintained by FCMs, but 
sometimes the manner of maintenance improperly makes ready retrieval 
difficult.
---------------------------------------------------------------------------

    As discussed above, proposed Rule 1.71 is intended to establish 
minimum requirements with respect to the use and the soundness of an 
AORS. The Commission believes that these basic, common sense 
requirements likely would be adopted by any responsible FCM or Rule 
30.10 firm, even in the absence of Commission action. Indeed, the 
Commission anticipates that AORSs may contain protections more 
elaborate than those required under the proposed rules. Depending on 
the nature of the system, compliance with existing Commission Rules 
1.16 and 166.3 may require more stringent internal controls and 
protections to be in effect. The Commission requests comments as to 
whether any additional specific prudential standards should be included 
in the Commission's rules concerning the use of AORSs.
    Certain commenters noted that rules pertaining to AORSs should 
apply universally. The Commission agrees with that position and is 
therefore proposing to add to Commission Rule 30.3 a new paragraph (e) 
to provide that, notwithstanding the terms of any prior Rule 30.10 
order, it shall be unlawful for a Rule 30.10 firm to accept or transmit 
for execution an order from a foreign futures or foreign options 
customer through an AORS unless the system satisfies the requirements 
of proposed Rule 1.71(a), as appropriate for a Rule 30.10 firm. This 
provision would apply to existing Rule 30.10 firms irrespective of what 
may have been stated in an earlier Commission order under Rule 30.10.
    With respect to the disclosure of risk that an FCM must provide to 
a customer or a foreign futures of foreign options customer using an 
AORS, the Commission notes that Rule 1.55, certain provisions of which 
are referred to above, provides in paragraph (g) thereof that any 
specific requirements set forth therein do ``not relieve (an FCM) from 
any other disclosure obligation it may have under applicable law.'' 
Therefore, although the Commission is not proposing any specific risk 
disclosure language applicable to an AORS or a DES, just as it has not 
done so for contract market automated trading systems, the Commission 
believes that FCMs must disclose material risks about these systems. 
Designated contract markets have developed risk disclosure statements 
for their automated trading systems that FCMs provide to customers 
using those systems, and comparable risk disclosures would be necessary 
and appropriate as to AORSs and DESs.
    The Commission notes that there have been discussions between 
Commission staff and a joint industry-NFA committee concerning a 
generic electronic trading and order routing systems disclosure 
statement, which is proposed to replace the contract market-specific 
disclosure statements with the understanding that customers would 
always be entitled to further information about a particular system 
upon request or about particular material risks not otherwise covered 
by the generic disclosure statement. In determining whether a 
petitioner's regulatory structure is generally comparable to the U.S. 
structure with respect to customer protection and prohibition of fraud 
and abuse, the Commission would review the petitioner's risk 
disclosures pertaining to its automated trading systems in light of 
those prepared by designated contract markets for their systems and any 
generic disclosure statement ulitmately developed in discussions 
between Commission staff and the industry-NFA committee discussed 
above. The Commission requests comment concerning any specific 
disclosure provisions that should be set forth in Commission rules.
    The Commission also notes that proposed Rule 1.71 would not apply 
in a situation where the customer is outside the U.S. and trades on a 
Rule 30.11 exempt board of trade or foreign board of trade, but the 
trade is given up for clearance after execution to an FCM. The focus of 
Rule 1.71 is to assure that there is a sound automated system that will 
be secure and provide for credit and trading or position limit checks 
prior to execution, and the Commission does not believe that the above 
situation would allow pre-screening by the FCM. Of course, the 
Commission expects that an FCM will maintain appropriate internal 
controls and supervision with respect to any account that it clears in 
accordance with existing Rules 1.16 and 166.3.
    The Commission is not proposing to apply the AORS definition or 
Rule 1.71 to order routing for open outcry execution. The Commission 
intends that these proposals would not alter its prior advisory 
referred to above or impact on efforts of contract markets using open 
outcry execution to enhance the automation of order flow.
4. Interim Procedures
    Several commenters have requested that the Commission grant interim 
relief to allow automated access from within the U.S. to boards of 
trade primarily operated outside the U.S. in anticipation of the 
Commission's final rules. The Commission appreciates the importance of 
the issues involved in this rulemaking, but does not believe that it is 
appropriate to grant interim relief either before the Commission's 
adoption of final rules or pending the Commission's review of a board 
of trade's petition. Interested boards of trade should feel free, 
however, to begin a dialogue now with Commission staff to help expedite 
their preparation and submission of a petition following the 
Commission's adoption of final rules.

IV. Related Matters

A. Regulatory Flexibility Act

    The Regulatory Flexibility Act (``RFA''), 5 U.S.C. 601-611 (1994), 
requires that agencies, in proposing rules, consider the impact of 
those rules on small businesses. The proposed rules discussed herein 
would affect boards of trade, their members or members' affiliates and 
FCMs. Many board of trade members and affiliates thereof will be FCMs. 
The commission previously has determined that, based upon the fiduciary 
nature of the FCM/customer relationships, as well as the requirement 
that FCMs meet minimum financial requirements, FCMs should be excluded 
from the definition of small entity.\45\ With respect to potentially 
affected entities that are not FCMs, such entities must be board of 
trade members or their affiliates, which generally have financial 
requirements comparable to FCMs. On that basis, these entities should 
not be considered ``small.'' Boards of trade likely to seek electronic 
access to their products from within the U.S. are similar in nature to 
designated contract markets, and the Commission has excluded contract 
markets from the definition of small entity.\46\ Accordingly, on behalf 
of the Commission, the Chairperson certifies that this proposed rule 
will not have a significant economic impact on a substantial number of 
small entities. Moreover, this proposal provides an alternative to the 
contract market designation process and to compliance with the law and 
rules related to contract markets and, in that respect, is less 
burdensome than that currently in place. Nevertheless, we invite 
comments regarding the applicability of the FRA to these proposed 
rules.
---------------------------------------------------------------------------

    \45\ FR 18618-18621 (April 30, 1982).
    \46\ Id.
---------------------------------------------------------------------------

B. Paperwork Reduction Act

    When publishing proposed rules, the Paperwork Reduction Act of 1995 
(Pub.

[[Page 14174]]

L. 104-13 (May 13, 1995)) imposes certain requirements on federal 
agencies (including the Commission) in connection with their conducting 
or sponsoring any collection of information as defined by the Paperwork 
Reduction Act. In compliance with the Act, the Commission, through 
these rule proposals, solicits comments to:

    (1) Evaluate whether the proposed collection of information is 
necessary for the proper performance of the functions of the agency, 
including the validity of the methodology and assumptions used; (2) 
evaluate the accuracy of the agency's estimate of the burden of the 
proposed collection of information including the validity of the 
methodology and assumptions used; (3) enhance the quality, utility, 
and clarity of the information to be collected; and (4) minimize the 
burden of the collection of the information on those who are to 
respond, including through the use of appropriate automated, 
electronic, mechanical, or other technological collection techniques 
or other forms of information technology, e.g., permitting 
electronic submission of responses.

    The Commission has submitted these proposed rules and their 
associated information collection requirements to the Office of 
Management and Budget. The burden associated with this entire 
collection (3038-0023), including these proposed rules, is as follows:
    Average Burden Hours Per Response: 39.36003.
    Number of Respondents: 73,640.
    Frequency of Response: On occasion.
    The burden associated with this specific proposed rule, is as 
follows:
    Average Burden Hours Per Response: 21.25003.
    Number of Respondents: 140.
    Frequency of Response: On occasion and quarterly.
    Persons wishing to comment on the estimated paperwork burden 
associated with these proposed rules should contact Desk Officer, 
Office of Management and Budget, Room 10202, NEOB, Washington, DC 20503 
(202) 395-7340. Copies of the information collection submission to OMB 
are available from the CFTC Clearance Officer, 1155 21st Street, NW., 
Washington, DC 20581, (202) 418-5160.

List of Subjects

17 CFR Part 1

    Commodity futures; Automated order routing system.

17 CFR Part 30

    Commodity futures; Foreign futures and foreign options.

    In consideration of the foregoing, and pursuant to the authority 
contained in the Commodity Exchange Act, and in particular, sections 
2(a)91)(A), 4, 4c and 8a thereof, 7 U.S.C. 2, 6, 6c and 12a, the 
Commission hereby proposes to amend parts 1 and 30 of chapter I of 
title 17 of the code of Federal Regulations as follows:

PART I--GENERAL REGULATIONS UDNER THE COMMODITY EXCHANGE ACT

    1. The authority citation ofr part 1 continues to read as follows:

    Authority: 7 U.S.C. 1a, 2, 2a, 4, 4a, 6, 6a, 6b, 6c, 6d, 6e, 6f, 
6g, 6h, 6i, 6k, 6l, 6m, 6n, 6o, 6p, 7, 7a, 7b, 8, 9, 12, 12a, 12c, 
13a, 13a-1, 16, 16a, 19, 21, 23 and 24.

    2. Section 1.3 is proposed to be amended by adding paragraph (tt) 
to read as follows:


Sec. 1.3  Definitions.

* * * * *
    (tt) Automated order routing system. This term means any system of 
computers, software or other devices that allows entry of orders 
through another party for transmission to a board of trade's computer 
or other automated device where, without substantial human 
intervention, trade matching or execution takes place.
    3. Section 1.71 is proposed to be added to read as follows:


Sec. 1.71  Automated order routing system.

    (a) It shall be unlawful for a firm registered or required to be 
registered as a futures commission merchant or a firm exempt from such 
registration under Sec. 30.10 of this chapter to accept or transmit for 
execution an order from or on behalf of a customer (other than an owner 
or holder of a proprietary account as defined in Sec. 1.3(y)) or a 
foreign futures or foreign options customer (as defined in Sec. 30.1(c) 
of this chapter) that has been entered through an automated order 
routing system, whether the system is operated, maintained or provided 
to the customer or the foreign futures or foreign options customer by 
the futures commission merchant, a firm exempt from such registration 
under Sec. 30.10 of this chapter or by another person, unless the 
automated order routing system is a qualified automated order routing 
system: Provided, however that the requirements of this section shall 
not apply to orders received by a firm registered or required to be 
registered as a futures commission merchant or a firm exempt from such 
registration under Sec. 30.10 of this chapter from a registered futures 
commission merchant for that futures commission merchant's customer 
omnibus accounts or proprietary accounts.
    (b) To be a qualified automated order routing system, such 
automated order routing system shall provide that:
    (1) Access is limited to:
    (i) Trading conducted on or subject to the rules of a designated 
contract market, through a registered futures commission merchant;
    (ii) Trading conducted on or subject to the rules of a board of 
trade to which the Commission has issued an exemption order under 
section 4(c) of the Act following the board of trade's submission of a 
petition in accordance with Sec. 30.11 of this chapter; or
    (iii) Trading conducted on a board of trade the products of which 
are accessible as part of an automated trading system operated pursuant 
to specific rules regarding the particular linkage arrangement that 
have been submitted by a designated contract market to the Commission 
and are in effect pursuant to section 5a(a)(12)(A) of the Act and 
Sec. 1.41 and which is otherwise primarily operating outside the United 
States.
    (2) Access is limited to products that can be lawfully offered and 
sold in the United States;
    (3) The futures commission merchant or firm exempt from such 
registration under Sec. 30.10 of this chapter takes reasonable steps to 
ensure that the system is and remains sound and secure and fit for the 
purpose for which it is intended;
    (4) For futures commission merchants, information required by 
Sec. 1.35(a-1)(1) is recorded in accordance with that paragraph, except 
that order-related times must be captured to the nearest second;
    (5) It is designed and operated consistent with the duty of the 
futures commission merchant or firm exempt from such registration under 
Sec. 30.10 of this chapter to maintain proper internal controls and 
supervision over the handling of customer accounts. This must include, 
but is not limited to, credit and trading or position limit checks that 
are performed, either by a natural person or by the system itself, 
prior to the order's execution. If such credit and trading or position 
limit checks are automated, the futures commission merchant or firm 
exempt from such registration under Sec. 30.10 of this chapter shall 
implement proper internal controls to ensure that limits appropriate to 
each customer or foreign futures or foreign options customer as 
determined by personnel of the futures commission merchant or the firm 
exempt from such registration under Sec. 30.10 of this chapter 
authorized to set such limits are properly input into the

[[Page 14175]]

automated order routing system and updated as appropriate;
    (6) The futures commission merchant or firm exempt from such 
registration under Sec. 30.10 of this chapter has the capability on a 
unilateral and immediate basis to block any customer's or foreign 
futures or foreign options customers' use of an automated order routing 
system where necessary or appropriate to safeguard the futures 
commission merchant or firm exempt from registration under Sec. 30.10, 
customer accounts or the stability or security of any designated 
contract market or any board of trade referred to in paragraphs 
(b)(1)(ii) and (iii) of this section; or for any other appropriate 
reason;
    (7) There are reasonable safeguards to ensure against unauthorized 
access, unauthorized trading, and unauthorized disclosure of customer 
or foreign futures or foreign options customer orders and to provide 
overall integrity and security of the automated order routing system; 
and
    (8) For a futures commission merchant, that the futures commission 
merchant has the capability to download trade history on each order 
entered through an automated order routing system on a daily basis and 
otherwise to maintain records related to such orders in accordance with 
Sec. 1.31.
    ((c)(1) A futures commission merchant shall maintain in accordance 
with Sec. 1.31 a record of those accounts of customers or foreign 
futures or foreign options customers for which the futures commission 
merchant will accept or transmit for execution orders that have been 
entered through an automated order routing system. This record shall 
also include the name of any person designated by the customer or 
foreign futures or foreign options customer to exercise control over 
the trading decisions for the account, which shall be readily 
accessible during the first two years of the required five-year 
retention period under Sec. 1.31.
    (2) A firm that is exempt from registration as a futures Medicare 
pursuant to an order granted by the Commission under Sec. 30.10 of this 
chapter shall maintain in accordance with the recordkeeping 
requirements of its home country regulator a record of those accounts 
of foreign futures or foreign options customers for which the firm will 
accept or transmit for execution orders that have been entered through 
an automated order routing system. This record shall also include the 
name of any person designated by the foreign futures or foreign options 
customer to exercise control over the trading decisions for the account 
and shall be made available upon the request of any Commission 
representative.

PART 30--FOREIGN OPTIONS AND FOREIGN FUTURES TRANSACTIONS

    4. The authority citation for part 30 continues to read as follows:

    Authority: 7 U.S.C. 2, 4, 6, 6c, and 12a.

    5. Section 30.3 is proposed to be amended by adding paragraphs (c)-
(e) to read as follows:


Sec. 30.3  prohibited transactions.

* * * * *
    (c) Except as otherwise provided in Sec. 30.11, it shall be 
unlawful to use or to provide to any person in the United States a 
direct execution system (as defined in Sec. 30.11(a)(1)) for the 
purpose of facilitating the execution of transactions in foreign 
futures or foreign options unless the board of trade to which the 
direct execution system provides access has been designated as a 
contract market under section 5 of the Act.
    (d) Except as otherwise provided in Sec. 30.11, it shall be 
unlawful for any person to solicit or accept orders for, or to accept 
money, securities or property in connection with, the purchase or sale 
of foreign futures or foreign options by a foreign futures or options 
customer that are entered via an automated order routing system (as 
defined in Sec. 30.11(a)(2)) unless the board of trade through which 
the transaction is to be executed has been designated as a contract 
market under section 5 of the Act.
    (e) notwithstanding the terms of any prior Commission order issued 
under Sec. 30.10, it shall be unlawful for a firm operating pursuant to 
a confirmation of a Commission order issued under Sec. 30.10 to accept 
or transmit for execution an order from a foreign futures or foreign 
options customer through an automated order routing system unless the 
applicable requirements of Sec. 1.71 of this chapter are satisfied.


Sec. 30.11  [Redesignated as Sec. 30.12]

    6. Section 30.11 is redesignated as Sec. 30.12 and a new Sec. 30.11 
is added to read as follows:


Sec. 30.11  Access from the United States to automated trading systems 
of a board of trade whose primary locus of regulation and operations is 
otherwise outside the United States.

    (a) Definitions: For purposes of this section:
    (1) Direct execution system means any system of computers, software 
or other devices that allows entry of orders for products traded on a 
board of trade's computer or other automated device where, without 
substantial human intervention, trade matching or execution takes 
place: Provided, however, that this term shall not include an automated 
order routing system as that term is defined in Sec. 1.3(tt) of this 
chapter.
    (2) Automated order routing system means automated order routing 
system as defined in Sec. 1.3(tt) of this chapter.
    (3) An affiliate of a member of a board of trade for purposes of 
this rule means any person that:
    (i) Owns 50% or more of a member;
    (ii) Is owned 50% or more by the member; or
    (iii) Is owned 50% or more by a third person that also owns 50% or 
more of the member.
    (4) Proprietary account means proprietary account as defined in 
Sec. 1.3(y) of this chapter.
    (b)(1) Upon the submission of a petition for exemption by a board 
of trade in accordance with this section, the Commission may issue an 
exemption order to the board of trade if the Commission determines 
that:
    (i) The petitioner is an established board of trade that wishes to 
place within the United States an automated trading system permitting 
access to trading its products but whose activities are otherwise 
primarily located in a particular foreign country that has taken 
responsibility for regulation of the petitioner;
    (ii) The petitioner's home country has established a regulatory 
scheme that is generally comparable to that in the U.S. and provides 
basic protections for customers trading on markets and for the 
integrity of the markets themselves;
    (iii) Except for certain incidental contacts with the U.S., the 
petitioner would be present in the U.S. only by virtue of being 
accessible from within the U.S. via its automated trading system;
    (iv) The petitioner is willing to submit itself to the jurisdiction 
of the Commission and the U.S. courts in connection with its activities 
conducted under an exemptive order;
    (v) The petitioner's automated trading system has been approved by 
the petitioner's home country regulator following a review of the 
system that applied the standards set forth in the 1990 International 
Organisation of Securities Commissions report on screen-based trading 
systems (as may be revised and updated from time-to-time) or 
substantially similar standards; and
    (vi) Satisfactory information sharing arrangements are in effect 
between the Commission and the petitioner and the petitioner's 
regulatory authority.

[[Page 14176]]

    (2) A petition of a board of trade made pursuant to this section 
should be filed with the Secretary of the Commission and must contain 
the following information, in English:
    (i) The address of the petitioner's main business office and the 
name, address, telephone number, facsimile number and electronic mail 
address of a person to contact for additional information concerning 
the petition;
    (ii) The petitioner's articles of association, constitution, or 
other similar organizational documents along with the date and place of 
its establishment;
    (iii) A complete description of the contracts that initially will 
be traded through direct execution systems and/or automated order 
routing systems located in the United States;
    (iv) The petitioner's current rules including all rules for members 
and users, which may be attached as an Appendix to the petition, and 
shall include a description of membership requirements and classes and 
distinctions between customer and proprietary trading;
    (v) The address of the office responsible for monitoring compliance 
with the petitioner's rules and the supervisory arrangements for 
monitoring compliance with the rules insofar as the rules apply to 
activities conducted in the United States, as well as the name and 
address of the petitioner's home country regulator;
    (vi) A description of the regulatory structure established in the 
petitioner's home country, including, without limitation, a description 
of the regulatory authority to which the petitioner is subject under 
the laws of such country, the status of the petitioner under those 
laws, and the applicable statutory and regulatory requirements 
established by law or by the regulatory authority that govern the 
operation of futures and options trading in the petitioner's home 
country, including, without limitation, applicable regulations or 
requirements concerning:
    (A) Prohibition of fraud, abuse and market manipulation relating to 
trading on petitioner's markets;
    (B) Recordkeeping and reporting by the petitioner or its members;
    (C) Fitness standards for intermediaries operating on petitioner's 
markets, members, or others;
    (D) Financial standards for the petitioner's members;
    (E) Protection of customer funds, including procedures in the event 
of a clearing member's default, insolvency or bankruptcy;
    (F) Trade practice standards;
    (G) Rule review or general review of board of trade operations by 
its regulatory authority;
    (H) Surveillance, compliance, and enforcement mechanisms employed 
by the board of trade and its regulatory authority to ensure compliance 
with their rules and regulations; and
    (I) Regulatory oversight of clearing facilities; Provided, however, 
that if the petitioner or the regulatory authority that governs the 
petitioner has received an order of exemption, for trading on the 
petitioning board of trade, from the Commission under Sec. 30.10 and 
the information required by paragraphs (b)(2) (ii), (iv) and (vi) of 
this section was provided to the Commission in the petition for such 
order and has not changed materially from the date of the Commission's 
order, the petitioner may, in lieu of furnishing the information 
otherwise required under paragraphs (b)(2) (ii), (iv) and (vi) of this 
section, make a statement to such effect which shall specify the 
date(s) the information was provided to the Commission and the name of 
the petitioner who received an order from the Commission under 
Sec. 30.10;
    (vii) Information sharing arrangements in effect between the board 
of trade and the regulatory authority in the petitioner's home country 
and the Commission, including information concerning any blocking 
statutes or data protection laws in effect in the petitioner's home 
country that might impair the Commission's ability to obtain 
information in accordance with such an arrangement;
    (viii) A general description of the order matching/execution system 
and any direct execution system, software or devices operated by the 
board of trade, including, at a minimum, a general description of the 
architecture and security features of the systems, a statement as to 
the length of time such systems have been operating, a complete history 
of any significant system failures or interruptions, and a discussion 
of the nature of any technical review of the board of trade's order 
matching/execution system or direct execution system performed by the 
board of trade's home country regulator, including a copy of any order 
or certification received and any discrepancies between the standard of 
review and the principles for screen-based trading set forth by the 
International Organisation of Securities Commissions: Provided, 
however, that if the information required by this paragraph has been 
provided to the Commission, or will be provided to the Commission 
contemporaneously with the board of trade's petition, by another board 
of trade whose products trade through the same direct execution system 
or automated order routing system as the petitioner, the petitioner 
must so state and must identify the board of trade that has or will 
provide the Commission with the required information and need not 
itself provide the information required under this paragraph, but will 
remain responsible for the provision of such information by the other 
board of trade;
    (ix) A description of all activities engaged in by the board of 
trade or its employees, agents or representatives in the United States, 
including, but not limited to, activities in connection with marketing, 
education or otherwise promoting the board of trade's business or 
products;
    (x) The address of, and a description of activities engaged in by, 
any office of the board of trade located in the United States and the 
number of personnel employed or retained by the board of trade in the 
United States, including the number of personnel in each such office;
    (xi) If the petitioner lists for trading any futures contracts that 
involve physical delivery of the underlying commodity and warehouses in 
connection with such delivery are located in the United States, its 
territories or possessions, the address of any such warehouses;
    (xii) A written statement in which the petitioner consents to or 
agrees to comply with each of the conditions listed in paragraph (d) of 
this section; and
    (xiii) Any further information that the Commission or its 
representatives request.
    (c) To the extent that the products of multiple boards of trade are 
to be traded from the same direct execution system or automated order 
routing system, each board of trade whose products will be made 
available from such systems located in the United States must, either 
individually or jointly, submit a petition in accordance with this 
section: Provided, however, that a board of trade's products may be 
offered through direct execution systems or automated order routing 
systems located in the United States and need not submit a petition to 
the Commission under this section or be designated as a contract market 
under section 5 of the Act if its products are accessible as part of an 
electronic trading system operated pursuant to specific rules regarding 
the particular linkage arrangement that have been submitted by a 
designated contract market to the Commission for review and are in 
effect under section 5a of the Act.

[[Page 14177]]

    (d) The Commission may issue an order under section 4(c) of the Act 
and the provisions of this section subject to such terms and conditions 
as the Commission may find appropriate: Provided, however, that any 
order issued to a board of trade under this section will be subject to 
the following conditions at a minimum, unless otherwise specified in 
the order by the Commission:
    (1) Only members of the board of trade and affiliates thereof will 
have access to direct execution systems, and the board of trade will 
not provide, and will take reasonable steps to prevent third parties 
from providing, direct execution systems to persons other than members 
and their affiliates;
    (2) Unless otherwise exempt from registration, any member or 
affiliate thereof that solicits or accepts orders for, or accepts 
money, securities or property in connection with the purchase or sale 
of foreign futures or foreign options by a foreign futures or foreign 
options customer via an automated order routing system, or that 
transmits the order of a foreign futures or foreign options customer 
via a direct execution system, must be a registered futures commission 
merchant or a firm exempt from such registration pursuant to an order 
granted under Sec. 30.10;
    (3) The board of trade will submit the following information to the 
Commission on at least a quarterly basis:
    (i) For each contract available to be traded through direct 
execution systems and automated order routing systems located in the 
United States, the total trade volume originating from such systems 
located in the United States; and
    (ii) For each contract available to be traded through direct 
execution systems and automated order routing systems located in the 
United States, the board of trade's total worldwide trade volume, from 
any source;
    (iii) A current list that:
    (A) Identifies and provides the main business addresses in the 
United States for those of its members and affiliates thereof that have 
direct execution systems in the United States and indicates which of 
such members and affiliates thereof allow the use of automated order 
routing systems for foreign futures and foreign options customers; and
    (B) Identifies and provides the main business addresses for those 
of its members and affiliates thereof that allow the use of automated 
order routing systems by foreign futures and foreign options customers, 
but who do not have direct execution systems in the United States: 
Provided, however, that the board of trade will additionally provide a 
current list to a Commission representative at any time upon request;
    (4) The board of trade will provide the Commission with written 
notice within 30 calendar days of:
    (i) Any material change to any information provided in its petition 
to the commission for a section 4(c) exemption order under this 
section: Provided, however, that the board of trade will notify the 
Commission in writing:
    (A) At least ten business days prior to offering any products not 
listed in its initial petition to be traded through direct execution 
systems or automated order routing systems located in the United States 
and;
    (B) Within 24 hours of any significant system failure or 
interruption or a member's default, insolvency or bankruptcy;
    (ii) A change in any laws or rules in the board of trade's home 
country relevant to futures or options, including rules of the board of 
trade itself, that may have a material impact on the order;
    (iii) Any known violation of any obligations under the order 
committed by a member of the board of trade or an affiliate thereof 
operating in the United States under the order; and
    (iv) Any disciplinary action taken against a member of the board of 
trade or an affiliate thereof operating in the United States under the 
order that involves any market manipulation, fraud, deceit or 
conversion or that results in suspension or expulsion and that involves 
the use of a direct execution system or an automated order system in 
the United States;
    (5) Satisfactory information sharing arrangements must remain in 
effect between the board of trade and the board of trade's regulatory 
authority and the Commission;
    (6) Prior to operating pursuant to the section 4(c) exemption 
order, the board of trade must file with the Commission, and maintain 
thereafter as long as the board of trade operates pursuant to the 
order, a valid and binding appointment of an agent for service of 
process in the United States, pursuant to which such agent is 
authorized to accept delivery and service of communications issued by 
or on behalf of the Commission, the Department of Justice, any board of 
trade member or affiliate of such member, or any foreign futures or 
foreign options customer. Service or delivery of any communication 
issued by or on behalf of any of the foregoing to the appointed agent 
shall constitute valid and effective service or delivery; and
    (7) Prior to operating pursuant to the section 4(c) exemption 
order, the board of trade must file with the Commission a written 
representation, executed by someone with authority to bind the board of 
trade, that, as long as the board of trade operates pursuant to the 
order, the board of trade irrevocably agrees to and submits to the 
jurisdiction of the Commission and state and federal courts in the 
United States with respect to the board of trade's activities conducted 
under the section 4(c) exemption order;
    (8) The Commission, in its discretion, may require other 
information of the board of trade to evaluate its continued eligibility 
for or compliance with conditions of a section 4(c) exemption order, or 
for any other reason. The Commission may require the board of trade to 
provide information regarding the stocks held at any warehouse 
maintained by the board of trade in the U.S. for products that require 
physical delivery.
    (e) The Commission shall publish in the Federal Register a notice 
of availability of each petition received under paragraph (b) of this 
section for the purpose of providing notice to the public. Interested 
parties may request a copy of the petition or relevant parts thereof 
from the Secretary of the Commission: Provided, however, that the 
Commission may limit the public availability of any information 
received from the petitioner if the petitioner submits a written 
request to limit disclosure contemporaneously with the petition and the 
Commission determines that the information sought to be restricted 
constitutes a trade secret or that public disclosure of the information 
would result in material competitive harm to the petitioner.
    (f) The Commission may, as it deems appropriate, condition, modify, 
suspend, terminate, or otherwise restrict the terms of an order issued 
under section 4(c) of the Act in accordance with this section if the 
Commission determines that a board of trade that has received a section 
4(c) exemption order in accordance with this section is in material 
violation of any term or condition of the order, or this section that 
the continued effectiveness of the order would be contrary to public 
policy or the public interest, or that circumstances otherwise do not 
warrant continuation of the order as issued. The Commission may take 
such action with respect to the order in its entirety or with respect 
to a specific person or persons operating thereunder.
    (g) Any trading conducted on or subject to the rules of a board of 
trade

[[Page 14178]]

that has received a section 4(c) exemption order in accordance with 
this section or a board of trade the products of which are accessible 
as part of an automated trading system operated pursuant to specific 
rules regarding the particular linkage arrangement that have been 
submitted by a designated contract market to the Commission and are in 
effect pursuant to section 5a(a)(12)(A) of the Act and Sec. 1.41 of 
this chapter and which otherwise operates primarily outside the United 
States shall be deemed to involve the trading of foreign futures or 
foreign options, as appropriate, under the definitions of Sec. 30.1(a) 
and (b) and under any provisions that refer to those definitions. A 
person located in the United States, its territories or possessions 
engaged in such trading shall be deemed to be a foreign futures or 
foreign options customer under Sec. 30.1(c).

    Issued in Washington, DC on March 16, 1999 by the Commission.
Jean A. Webb,
Secretary of the Commission.

    Commissioner Barbara P. Holum joining in the concurring opinions of 
Commissioners Spears and Newsome.

    Dated: March 16, 1999.
Commissioner Barbara P. Holum.

Concurring Opinion of Commissioner David D. Spears--Proposed Rules 
Concerning Access to Automated Boards of Trade

    I have significant reservations about the complexity of the 
proposed rules. I believe the elaborate regulatory system this proposal 
envisions could impose unnecessary burdens on US FCMs and could be 
cited by foreign regulators as justification for imposing unnecessarily 
restrictive requirements on US exchanges. However, I also recognize 
that the Commission needs to act as quickly as possible to address 
issues relating to access to foreign boards of trade from within the 
US. Further delay in issuing proposed rules to allow for additional 
revisions or refinements in the proposal would be a disservice to those 
affected by the proposal. The investing public and the futures industry 
have every right to expect this agency to act expeditiously in bringing 
legal certainty to this area. Therefore, I have voted to issue the 
proposed rules in the form presented. However, I would urge commenters 
to review the proposal carefully with an eye toward suggesting 
revisions that would make the rules simpler without detracting from 
adequate customer protection or the fair and even-handed treatment of 
all affected parties.

Concurring Opinion of Commissioner James E. Newsome--Proposed Rules 
Concerning Automated Trading System Use in the United States

    I respectfully concur in the issuance of the proposed rules 
concerning automated trading system use in the United States. I agree 
that the proposal should be released for public comment, but I do not 
agree with the approach detailed therein, for the reasons stated below.
    My concerns are twofold: first, I believe that the proposal is 
overly regulatory in approach, and secondly, I believe that there are 
troublesome jurisdictional issues inherent in the proposed regulation, 
specifically, the use of the Commodity Exchange Act's Sec. 4(c) 
exemptive authority and the possible conflict with the Act's Sec. 4(b) 
jursidictional limitations. I do not believe that the proposal 
appropriately mitigates the competitive concerns of our domestic 
exchangers, and, indeed, may well exacerbate the issue of inequitable 
regulatory treatment. Moreover, I believe that there are unnecessary 
additional burdens included in this proposal that would negatively 
affect the futures commission merchant community.
    Given the widespread interest in this issue and the unfortunate 
delay in its release, I support moving forward expeditiously and giving 
the public another opportunity to comment on the proposal. However, I 
strongly urge interested parties to comment particularly on the issues 
I have mentioned, as well as alternative methods of addressing this 
issue, including, for example, the use of no-action procedures or the 
CEA's Part 30 Regulations.

    Dated: March 15, 1999.
James E. Newsome,
Commissioner.
[FR Doc. 99-6829 Filed 3-23-99; 8:45 am]
BILLING CODE 6351-01-M