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NFA prepares to regulate security futures products
By lifting the 18-year ban on trading single-stock futures, the Commodity Futures Modernization Act of 2000 (CFMA) ushers in an exciting new era for the futures industry and challenging new opportunities for NFA. The CFMA authorizes principal-to-principal futures transactions in single securities and narrow-based security indices to begin trading on August 21, 2001. The legislation also allows exchange-traded, intermediated futures transactions to begin on December 21, 2001.
Both of these dates are contingent on NFA's qualifying as a limited purpose national securities association (limited purpose NSA). NFA's registration as a limited purpose NSA is "automatic" if NFA meets certain requirements, including amending its rules regarding suitability, sales practices and fair dealing.
According to the CFMA, security futures products will be regulated as both futures and securities. FCMs and IBs that intend to offer these products must register as broker-dealers through a notice filing with the Securities and Exchange Commission (SEC). They do not, however, have to join NASD Regulation, Inc. (NASDR). Instead, NFA will regulate their activities subject to SEC oversight.
"We have met with representatives from the SEC and the CFTC to get a full understanding of the rule changes we need to make to fulfill the SEC's requirements," says Kathryn Camp, associate general counsel. "We have also had ongoing discussions with NASDR to avoid imposing conflicting regulations on dual members."
To expedite the process, Camp and other NFA staff members prepared a regulatory comparison which analyzes NASDR and NFA rules for suitability, sales practices and fair dealing. From that comparison, NFA staff determined what rule amendments or adoptions, if any, would be necessary in order to demonstrate to the SEC that NFA's rules are reasonably comparable to NASDR's rules in these areas.
"NFA will need to amend Compliance Rule 2-30 to require Member firms to specifically approve accounts to trade security futures products in light of a customer's financial situation," says Camp. "Member firms will also have to ensure that specific security futures recommendations are suitable for the customer."
"We are also drafting a proposed Interpretive Notice to include some specifics not in Rule 2-29 and to make sure that Members and Associates understand their obligations," says Camp.
To address these concerns, NFA is proposing a new Compliance Rule 2-37 that relates only to security futures products. NFA is also drafting an Interpretive Notice that explicitly prohibits trading ahead (for all futures contracts) and clarifies what it means to trade on material, non-public information (for security futures contracts).
"We have discussed our rule proposals with each of our FCM, CPO/CTA and IB Advisory Committees," says Camp. "They provided us with valuable feedback which we will incorporate in to our final rule proposals. We are also soliciting feedback from other industry professionals."
In addition to rule development, NFA is collaborating with the NASDR on a separate risk disclosure statement for security futures products and a joint approach to testing and proficiency issues.
"The introduction of security futures products has presented NFA with a complex and challenging project," says Camp. "However, in all of our efforts, we are committed to minimizing unnecessary regulatory burdens on our Members."