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November 25, 1997
Via Facsimile and Regular Mail
RE: FCM/IB Risk Disclosure Amendments
Dear Ms. Webb:
National Futures Association ("NFA") respectfully submits the following comments in response to a release issued by the Commodity Futures Trading Commission ("Commission") in the September 10, 1997 Federal Register. In that release, the Commission solicited comment on proposed amendments to Rule 1.55.
The proposed amendments to Rule 1.55 would relieve futures commission merchants ("FCMs") and introducing brokers ("IBs") of the current requirement to furnish written risk disclosure statements to certain financially accredited investors, as defined in proposed rule 1.55(f). The proposed amendments would also relieve FCMs and IBs of the requirement to obtain from such customers written acknowledgments of the receipt of the risk disclosure statement before opening a commodity futures account, unless the FCM or IB elected to require such written acknowledgment. Additionally, the Commission proposes amendments which would relieve FCMs and IBs of the obligation to furnish disclosure statements required under Rules 30.6(a), 33.7(a), 1.65(a)(3) and 190.10(c) to financially accredited customers.
NFA fully supports the Commission's efforts both to reduce the regulatory burdens associated with opening a commodity futures account and to facilitate use of the futures markets by certain institutional market participants and other financially accredited investors. These endeavors will most certainly add to the efficiency of the regulated markets, thereby making them more attractive to institutional market participants. With the inclusion of certain clarifications which are discussed below, NFA wholeheartedly embraces the Commission's proposal.
In July 1997, the Commission adopted amendments to Rules 4.21(b) and 4.31(b) that permit Commodity Pool Operators ("CPOs") and Commodity Trading Advisors ("CTAs") to transmit Disclosure Documents to their clients via electronic transmission, subject to certain procedures that the Commission described therein to ensure that the recipient received the document. For consistency and simplification of procedures, NFA recommends that FCMs and IBs be permitted to provide disclosure statements by electronic means to customers who are not accredited investors, subject to the same terms and conditions applicable to CPOs and CTAs.
When the Commission first considered allowing CPOs and CTAs to issue disclosure documents electronically, the Commission recognized that electronic media can provide an effective alternative to "paper-based media." The Commission determined that the efficiency of providing disclosure documents electronically was a worthwhile endeavor to simplify and streamline the process, yet it never lost sight of the fact that the use of electronic media to transmit documents must be carefully scrutinized. Toward that end, the Commission required procedures to demonstrate informed consent by customers.
The Commission concluded that acknowledgment of receipt of the electronic disclosure document must be shown to ensure that the customer actually received it. The Commission demonstrated flexibility in determining that the acknowledgment requirement may be satisfied by an electronic method that uniquely identifies a specified person who has confirmed receipt of a document.
In the spirit of remaining consistent both with other regulators as well as within the futures industry, and to reflect the reality that many documents today are presented in electronic media, NFA strongly urges the Commission to grant FCMs and IBs the opportunity to provide their risk disclosure statements via electronic means to those customers who are not financially accredited. The same safeguards as have been afforded in the case of CPOs and CTAs and which were discussed above, can and should be extended to FCMs and IBs to ensure that the customers of FCMs and IBs are afforded both protection and convenient methods through which to receive disclosure documents.
The proposed amendments, while attempting to effect a simplified risk disclosure obligation for FCMs and IBs in relation to accredited investors, still require FCMs and IBs "to provide customers with all material information relating to a transaction." NFA believes that this phrase should be stricken from the final version of the rule. Current Rule 1.55(f), which will remain a part of the rules as 1.55(g), provides that compliance with the provisions of Rule 1.55 does not relieve an FCM or IB from any other disclosure obligation it may have under applicable law. Indeed, the Commission notes that these minimum disclosure obligations arise under the Act, under state law and under common law. Because these requirements are prescribed by law and because the purpose of the amendments is to simplify the risk disclosure process, to include such a phrase serves only to confuse those being regulated. NFA is sensitive to the Commission's efforts to balance customer protection purposes with reducing regulatory burdens on FCMs and IBs; however, this proviso may foster confusion such that an FCM or IB may interpret it to mean that they are under stricter scrutiny, which is obviously contrary to the spirit of the amendments.
The amendments proposed by the Commission do not provide FCMs relief from obtaining a signed subordination agreement from a customer who meets the criteria set forth in Rule 1.55(f) as required by Financial and Segregation Interpretation Number 12 when that customer's funds are held by FCMs in foreign depositories. NFA does not believe that FCMs should be required to obtain a signed subordination agreement from such investors just as FCMs and IBs should no longer be required to supply risk disclosure statements and bankruptcy disclosure statements to financially accredited investors in an effort to streamline and simplify the process as it relates to sophisticated investors. Although NFA has no objection to FCMs providing the agreement to such investors should the Commission deem that necessary for informational purposes, NFA does not believe that FCMs should be required to retain a signed acknowledgment where accredited investors are involved.
According to the Commission's discussion of the proposed rule, the customer categories for whom an FCM or IB may claim relief are based substantially upon the categories of eligible swap participants in Part 35 of the Commission rules and eligible participants in Part 36 of the Commission rules. However, Part 35 involves complex over-the-counter transactions and Part 36 involves transactions subject to a different standard of regulation. The type of transactions contemplated by the proposed rule amendments are less complex in nature - they are primarily traditional futures and options on futures contracts that are executed on regulated contract markets. Because only these less complex transactions are addressed by these amendments, NFA recommends that the Commission re-evaluate the proposed definition of financially accredited investor, possibly by making it consistent with the definition of qualified eligible participant in Rule 4.7(a)(1)(ii).
An NFA special committee is reviewing the several definitions of sophisticated investors that are found in the Commodity Exchange Act and Commission regulations as well as in the securities laws. After its review, the committee may recommend a uniform definition. If so, NFA may suggest that the definition of financially accredited investor be modified to fit the uniform definition.
In conclusion, NFA is grateful for this opportunity to comment on the Commission's proposed amendments to its disclosure rules. NFA supports the Commission's efforts in this area, but also recommends that the Commission include clarification on the points addressed herein.
Daniel J. Roth