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April 18, 2012
Effective Date of Interpretive Notice to NFA Compliance Rule 2-10 Regarding Allocation of Bunched Retail Forex Orders for Multiple Accounts
The Commodity Futures Trading Commission (CFTC) has approved NFA's Interpretive Notice entitled NFA Compliance Rule 2-10: The Allocation of Bunched Retail Forex Orders for Multiple Accounts. The Interpretive Notice was adopted to address NFA's concerns involving an allocation procedure known as Percentage Allocation Management Module (PAMM) that is used by some CTAs that manage retail forex customer accounts when allocating bunched orders on behalf of multiple customers. The Interpretive Notice becomes effective June 18, 2012.
CTAs that utilize PAMM place orders at FCMs and RFEDs for an unlimited number of customer accounts under one master account at each FCM or RFED, with each individual customer maintaining a sub-account under the master account. CTAs utilize the total equity of the master account to place a bunched order and then subsequently allocate lots or contracts based on each customer's account equity as a percentage of the overall equity in the master account. Since the margin equity in each individual account is often too low to place a trade for a regularly offered and tradable sized lot or contract, PAMM often results in allocations to individual customers that are not equivalent to a regularly offered and tradable sized lot or contract.
As a result, PAMM treats each customer sub-account similar to a commodity pool's participant units without the master account being legally structured as a pool. Moreover, PAMM leads to accounts not being treated fairly and in a non-preferential manner. Specifically, because FCMs and RFEDs are likely to only act as counterparty with respect to regularly offered and tradable sized lot(s) or contract(s) margined and traded at the master account level, PAMM often restricts the ability of account managers to offset an open position in a smaller percentage lot or contract without affecting the positions of all the sub-accounts underlying the master account. In addition, as described in the Interpretive Notice, PAMM may cause various FCMs and RFEDs to impose various problematic restrictions on customers withdrawing and adding funds to their accounts.
While CTAs managing retail forex accounts may use bunched orders, the Interpretive Notice clarifies that in order to be in Compliance with NFA Compliance Rule 2-10, which adopts by reference CFTC Regulation 1.35, certain practices must be complied with irrespective of the allocation method (e.g., PAMM or otherwise) utilized by a CTA. In particular, the Interpretive Notice provides:
In addition, the Interpretive Notice reminds Members of the longstanding core principles and responsibilities applicable to the allocation of customer bunched orders.
Lastly, although a CTA is responsible for the allocation of each bunched order, FCMs and RFEDs have certain obligations as well. In particular, each FCM and RFED must receive sufficient information from an account manager to allow the firm to perform its functions, including information concerning the number of contracts to be allocated to each account included in the bunched order. One means by which an FCM or RFED can meet this recordkeeping requirement is to maintain a copy of the allocation instructions provided by the account manager by facsimile, e-mail, or other form of electronic transmission. If the allocation is provided orally, however, the FCM or RFED must create a written record and maintain that record.
If an FCM or RFED has actual or constructive notice that allocations may be fraudulent, the FCM or RFED must take appropriate action. For example, if an FCM or RFED has notice of unusual allocation activity, the FCM or RFED must make a reasonable inquiry into the matter and, if appropriate, refer the matter to the proper regulatory authorities (e.g., the CFTC or NFA or its DSRO). Whether an FCM or RFED has such notice depends upon the particular facts involved.
More information on these amendments can be found in NFA's September 2, 2011 Submission Letter to the CFTC. Questions concerning these changes should be directed to Lauren Brinati, Director, Compliance at firstname.lastname@example.org or Mary McHenry, Senior Manager, Compliance at email@example.com.