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NFA Compliance Rule 2-8 provides certain requirements relating to a Member or Associate's exercise of discretion over a customer's commodity futures account. NFA Compliance Rule 2-8(e)(2) specifically provides that no FCM or IB Member shall accept or introduce a customer account over which a third party is to exercise discretion without first obtaining an acknowledgment that the customer has received a disclosure document or a written explanation why none was provided. Several FCM Members recently requested that NFA limit this requirement to apply only to unsophisticated customers.
Compliance Rule 2-8(e)(2) was originally developed by NFA's FCM Advisory Committee in 1984. At the time, that Committee stated that this provision was necessary, in part, based upon their belief that both the FCM carrying an account and a third party exercising discretion over an account have responsibilities to the customer. The FCM Advisory Committee reasoned that this provision's requirement would provide an additional check in the regulatory scheme to ensure that a person acting in a capacity requiring a disclosure document will not be able to place accounts at an FCM or IB without demonstrating that the document has been provided to the customer.
In evaluating the request to limit the application of Compliance Rule 2-8(e)(2), the Board noted that this provision essentially duplicates the protections afforded by NFA Bylaw 1101. To comply with Bylaw 1101, an FCM or IB Member must determine whether any third party trading a customer's account is a Member of NFA. If the account controller is a Member, the FCM or IB should be able to assume that the account controller has complied with NFA rules and has delivered any required disclosure documents. The Board reasoned that requiring the FCM or IB to obtain an acknowledgment from the customer that he has obtained the disclosure document adds little regulatory protection. If the account controller is not an NFA Member, Bylaw 1101 requires the FCM or IB to determine whether he is required to be registered. Thus, the current requirement in Compliance Rule 2-8(e)(2) that the FCM or IB obtain a written explanation from the account controller why a disclosure document was not required also adds little, if any, protection.
Therefore, the Board concluded that the regulatory protections afforded by Compliance Rule 2-8(e)(2) are essentially provided for by NFA Bylaw 1101 and, therefore, determined that NFA Compliance Rule 2-8(e)(2) should be deleted.
As the Commission is aware, in 1995, NFA's Special Committee for the Review of CPO/CTA Disclosure Issues recommended and the Board approved a rule proposal to deal with the issue of notional funding. This issue stems from the simple fact that institutional customers direct a CTA to base its trading decisions on a certain amount the customer is willing to commit to a particular trading program. These customers, however, typically keep a much smaller amount on deposit with the FCM, usually their minimum margin requirement. The question becomes which figure the CTA should use as the beginning net asset value in computing rate of return, the amount the customer directed the CTA to use as the basis for its trading decisions or the amount the customer actually deposits with the FCM. NFA believes that CTAs should not have to reflect dramatically different rates of return for two customers making the same trades in the same trading program simply because the customers happen to have different cash management strategies.
NFA Compliance Rule 2-34 requires the CTA to disclose the partial funding of an account to the carrying FCM and to disclose to its customers how partial funding affects margins and fees. At the same time it approved Compliance Rule 2-34, the Board approved an interpretive notice to Compliance Rule 2-29 dealing with a number of issues concerning the content of disclosure documents. That notice included a statement that a CTA's "rate of return information must be calculated in a manner approved by the Commission and must be based on the entire amount of funds committed to trading (i.e., nominal account size)." Taken together, these two provisions were intended to require CTAs to calculate rate of return information on the amount a customer has committed to trading rather than on the actual funds in an account.