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NFA Compliance Rule 2-4 requires Members and Associates to observe high standards of commercial honor and just and equitable principles of trade in the conduct of their commodity futures business. NFA's Executive Committee asked staff to draft and obtain Advisory Committee input on an Interpretive Notice reminding Members and Associates that they violate this rule if they obtain, seek to obtain, or misuse another Member or Associate's confidential information or trade secrets.
In March 2006, a former CPO/CTA Member of NFA filed for bankruptcy protection based on losses incurred by one of its funds that had deposited more than $300 million with Refco Capital Markets ("RCM"). The fund transferred the money elsewhere once RCM's financial troubles were discovered, but the RCM bankruptcy court held that the transfer may have been preferential and froze the assets previously held at RCM. The former Member responded by filing its own bankruptcy proceeding.
To obtain additional income for its bankruptcy estate, the former Member entered into a licensing agreement with a current NFA Member CPO/CTA. The agreement would have granted the current Member a perpetual, non-exclusive, non-transferable right to use the former Member's proprietary database of historical trading positions. This database would have revealed the positions taken by its portfolio managers, including some NFA Member CTAs. In late November, the former Member asked the bankruptcy court to approve the arrangement, and the Court scheduled the motion for a December 15, 2006 hearing.
Soon after the former Member filed its motion, several Member CTAs contacted NFA because they had serious concerns regarding the current Member's conduct in entering into this licensing agreement. Specifically, they claimed that the current Member could discover their trading methodologies if it obtained the database. The CTAs felt that the current Member's conduct was inconsistent with commercial honor and just and equitable principles of trade, in violation of NFA Compliance Rule 2-4.
NFA does not usually get involved in business disputes between Members and has never initiated a regulatory action because a Member improperly obtained another Member's trade secrets or proprietary information. When these situations occur, Members can, and do, seek civil remedies through NFA's arbitration forum or otherwise. The situation here was more than a simple business dispute, however, because the CTAs' customers might have been harmed if the current Member had analyzed the information and traded on it.
While this particular situation has been resolved, at least one Member CTA requested that NFA consider adopting a rule prohibiting a Member from improperly obtaining another Member's trade secrets or proprietary information. While NFA Compliance Rule 2-4 already prohibits this conduct, the Interpretive Notice ensures that Members are aware of their responsibilities in this area.
The Interpretive Notice states that Compliance Rule 2-4 prohibits Members and Associates from knowingly obtaining or seeking to obtain another Member's or Associate's confidential information or trade secrets without that person's permission and from knowingly or recklessly misusing confidential information or trade secrets in their possession when these activities may harm futures customers. It also clarifies that this prohibition is limited to a Member's commodity futures business and does not reach into areas beyond NFA's normal jurisdiction.
The notice gives three examples of behavior that violates the rule: 1) misusing customer information, 2) disclosing customer orders, and 3) obtaining or attempting to obtain confidential information disclosing a CTA's historical trading positions.
Staff discussed the proposed Interpretive Notice with the FCM, IB, and CPO/CTA Advisory Committees. The Notice that emerged from these discussions is narrowly drawn, focusing on behaviors that could harm customers rather than on business disputes.