INTERPRETIVE NOTICE

The Commodity Exchange Act (CEA or Act) gives the Commodity Futures Trading Commission (CFTC or Commission) limited jurisdiction over off-exchange foreign currency transactions offered to or entered into with retail customers. As a result of those provisions, certain firms primarily engaged in the retail forex business have registered with the CFTC and become Members of NFA. NFA has adopted several requirements to govern the conduct of these firms and their associated persons.

As described below, NFA Bylaw 306 creates a Forex Dealer Member category for certain NFA Members who act as counterparties to forex transactions with retail customers. This category allows NFA to exercise appropriate regulatory jurisdiction over the retail forex activities of these Members without imposing unnecessary, and potentially duplicative, regulatory burdens on Members that are otherwise subject to regulatory oversight for their activities.

NFA Bylaw 1507(b) defines forex as foreign currency futures and options and any other agreement, contract, or transaction in foreign currency that is offered or entered into on a leveraged or margined basis, or financed by the offeror, the counterparty, or a person acting in concert with the offeror or counterparty on a similar basis that are:

• offered to or entered into with persons that are not eligible contract participants as defined in Section 1a(12) of the Act (retail customers); and

• not executed on or subject to the rules of a contract market, a derivatives transaction execution facility, a national securities exchange registered pursuant to Section 6(a) of the Securities Exchange Act of 1934, or a foreign board of trade.¹

• securities (other than security futures products);

• any contract of sale that results in actual delivery within two days; and

• any contract of sale that creates an enforceable obligation to deliver between a seller and buyer that have the ability to deliver and accept delivery, respectively, in connection with their line of business.

Given the differences between off-exchange transactions and traditional exchange-traded futures and options, the Board of Directors does not believe that it is appropriate to apply the full array of NFA's futures rules to forex transactions. Therefore, rather than simply incorporating forex transactions into the definition of "futures," NFA adopted NFA Compliance Rule 2-36 to govern these transactions.

In developing its forex requirements, NFA's primary concern was to ensure that they provide adequate protection for retail customers without imposing undue burdens on NFA Members. NFA also believes that its requirements should, where consistent with customer protection, promote innovation and competition. In order to provide Members with as much flexibility as possible, NFA has chosen to deal with a number of issues by providing guidance under NFA Compliance Rule 2-36 instead of by adopting additional rules.

NFA Compliance Rule 2-36 sets out the general standards that apply to Forex Dealer Members and their Associates in connection with forex transactions. Subsection (b) prohibits Forex Dealer Members and their Associates from engaging in fraudulent activities, subsection (c) requires Forex Dealer Members and their Associates to observe high standards of commercial honor and just and equitable principles of trade in connection with their forex business, and subsection (e) requires Forex Dealer Members and their Associates with supervisory duties to supervise their employees and agents. Other subsections address a Forex Dealer Member's responsibility for its unregulated affiliates and third-party solicitors and make Forex Dealer Members subject to discipline for the conduct of certain non-Members with which they do business.

This notice has three sections. The first section explains who qualifies as a Forex Dealer Member under NFA Bylaw 306, the second section provides additional guidance about the requirements in Compliance Rule 2-36, and the third section covers other miscellaneous requirements.

A. BYLAW 306

In general, Forex Dealer Members are NFA Members who act as counterparties to forex transactions. This is a self-executing requirement, which means that any Member who qualifies is automatically a Forex Dealer Member. There is no application form and no approval requirement.

Members who do not act as counterparties are not Forex Dealer Members, even if they introduce or manage forex accounts. Under NFA Compliance Rule 2-39, however, most Members who introduce or manage forex accounts are required to comply with subsections (a), (b), (c), and (e) of NFA Compliance Rule 2-36.

Bylaw 306(b) excludes Members that are otherwise subject to regulatory oversight for their forex activities, which means that these Members are not Forex Dealer Members and do not have to comply with Compliance Rule 2-36. ² The exclusions mostly follow Section 2(c)(2)(B)(ii) of the CEA, although the exclusions for broker-dealers and their affiliates are conditioned on the Financial Industry Regulatory Authority ("FINRA") membership. In particular, the following entities are not Forex Dealer Members:

• financial institutions (e.g., banks and savings associations);
• certain insurance companies and their regulated subsidiaries or affiliates;
• financial holding companies;
• investment bank holding companies;
• registered broker-dealers that are members of FINRA;³ and
• Material Associated Persons of registered broker-dealers that are members of FINRA.⁴

B. COMPLIANCE RULE 2-36

As noted above, this section provides additional guidance on what Compliance Rule 2-36 requires. Certain sections specifically refer to Forex Dealer Members. Except for Members that meet the criteria in Bylaw 306(b), all other provisions of this notice also apply to Members and their Associates who solicit, introduce or manage forex accounts.

1. Disclosure - Members must provide forex customers with understandable and timely disclosure on essential features of forex trading.

At or before the time a customer first engages in a forex transaction, a Forex Dealer Member and its Associates should provide the customer sufficient information concerning the characteristics and particular risks of entering into forex transactions. Members and Associates introducing or managing accounts should know what information has been provided and should supplement it when necessary.

This information must include the following statement prominently displayed:

The transactions you are entering into with [Member] are not traded on an exchange. Therefore, under the U.S. Bankruptcy Code, your funds may not receive the same protections as funds used to margin or guarantee exchange-traded futures and options contracts, which receive a priority in bankruptcy. Since that same priority has not been given to funds used for off-exchange forex trading, if [Member] becomes insolvent and you have a claim for amounts deposited or profits earned on transactions with [Member], your claim may not receive a priority. Without a priority, you are a general creditor and your claim will be paid, along with the claims of other general creditors, from any monies still available after priority claims are paid. Even customer funds that [Member] keeps separate from its own operating funds may not be safe from the claims of other general and priority creditors.

At or before the time a customer first engages in a forex transaction, a Member and its Associates should disclose how the Member will be compensated for the services it will provide to the customer.

Additionally, a Forex Dealer Member must describe to the customer the nature of these foreign currency transactions. Therefore, a Forex Dealer Member must provide, and the customer must separately acknowledge receipt of, either the following disclosure language or other appropriate language (based upon the Forex Dealer Member's business model) approved by NFA staff, which must be prominently displayed in all uppercase letters and in 10 point size type or larger but in any event no smaller than any surrounding type:

THE FOREIGN CURRENCY TRADING YOU ARE ENTERING INTO IS NOT CONDUCTED ON AN EXCHANGE. [MEMBER] IS ACTING AS A COUNTERPARTY IN THESE TRANSACTIONS AND, THEREFORE, ACTS AS THE BUYER WHEN YOU SELL AND THE SELLER WHEN YOU BUY. AS A RESULT, [MEMBER]'S INTERESTS MAY BE IN CONFLICT WITH YOURS. UNLESS OTHERWISE SPECIFIED IN YOUR WRITTEN AGREEMENT OR OTHER WRITTEN DOCUMENTS [MEMBER] ESTABLISHES THE PRICES AT WHICH IT OFFERS TO TRADE WITH YOU. THE PRICES [MEMBER] OFFERS MIGHT NOT BE THE BEST PRICES AVAILABLE AND [MEMBER] MAY OFFER DIFFERENT PRICES TO DIFFERENT CUSTOMERS.

IF [MEMBER] ELECTS NOT TO COVER ITS OWN TRADING EXPOSURE, THEN YOU SHOULD BE AWARE THAT [MEMBER] MAY MAKE MORE MONEY IF THE MARKET GOES AGAINST YOU. ADDITIONALLY, SINCE [MEMBER] ACTS AS THE BUYER OR SELLER IN THE TRANSACTION, YOU SHOULD CAREFULLY EVALUATE ANY TRADE RECOMMENDATIONS YOU RECEIVE FROM [MEMBER] OR ANY OF ITS SOLICITORS.

Forex Dealer Members should provide both the bid and the offer when the customer enters an order.

Members should update any material information that has changed prior to entering into new transactions with current customers if failing to update the information would make it misleading.

2. Reporting - Forex Dealer Members must provide forex customers with timely and accurate notice of the status of their accounts.

Forex Dealer Members should provide written confirmations within one business day after any activity in the customer's account, including offsetting transactions, rollovers, deliveries, option exercises, option expirations, trades that have been reversed or adjusted, and monetary adjustments. The confirmation should include the information required by Compliance Rule 2-44.

Forex Dealer Members should provide regular monthly statements showing all forex transactions and other account activity to customers for all accounts that have open positions at the end of the month or changes in the account balance or equity since the prior statement. Forex Dealer Members should provide statements at least quarterly for all other open accounts. The monthly or quarterly statements should include the information required by Compliance Rule 2-44.

Confirmations and monthly/quarterly statements may be provided on-line or transmitted by other electronic means if the customer consents to the specific method used.

3. Supervision - Members and their Associates having supervisory responsibilities must diligently supervise the Member's forex business, including the activities of the Member's Associates and agents. Members must establish, maintain, and enforce written supervisory procedures.

NFA has provided Members with guidance on minimum standards of supervision through interpretive notices issued under NFA Compliance Rule 2-9.⁵ In these interpretive notices NFA recognized that, given the differences in the size of and complexity of the operations of NFA Members, there must be some degree of flexibility in determining what constitutes "diligent supervision" for each firm. This principle also applies to the supervision of a Member's forex business.

Although Members have the flexibility to design procedures that are tailored to their own situation, an adequate program for supervision would include procedures for performing day-to-day monitoring. These procedures would include:

• screening employees who will solicit transactions from or provide advice to customers or manage customer accounts to see if they are subject to any of the statutory disqualifications in Section 8a of the CEA and, if so, to determine the extent of supervision they will require;
• monitoring communications with the public, including sales solicitations and web sites, and approving promotional material;
• reviewing the information obtained from and the information provided to customers solicited by the firm and its employees to ensure that the necessary account information has been obtained and the appropriate information provided; and
• handling and resolving customer complaints.

For Forex Dealer Members, these procedures would also include:

• screening prospective Associates to ensure that they are registered with the Commodity Futures Trading Commission as associated persons;⁶
• screening persons who introduce customer business or manage customer accounts to see if the firm or any of its principals is subject to a statutory disqualification under Section 8a of the CEA and, if so, determining if the Forex Dealer Member should perform additional due diligence on that person;⁷
• reviewing disclosures given to customers to ensure they are understandable, timely, and provide sufficient information;
• reviewing and analyzing the forex activity in customer accounts, including discretionary customer accounts; and
• handling customer funds, including accepting security deposits.

A Forex Dealer Member and a listed principal that is also a registered associated person (see Financial Requirements 15(c)) must supervise the preparation of a Forex Dealer Member's financial books and records. Diligent supervision includes hiring and retaining qualified staff. In determining whether an individual responsible for preparing the Member's financial books and records is qualified, the firm and its financial principal should consider the following:

• Is the individual qualified for the position by experience or training?
  
• Does the individual exercise independent judgment?
  
• Has the individual ever been sanctioned or refused membership or licensing by NFA, the CFTC, the SEC, NASD or FINRA, the Public Company Accounting Oversight Board, or any other financial regulator?
  
• Has the individual ever been sanctioned or refused membership by the American Institute of Certified Public Accountants or any other accounting organization?
  
• Has any firm for which the individual performed auditing, accounting, or bookkeeping been subject to an emergency action or sanctioned by NFA, the CFTC, the SEC, NASD or FINRA, the Public Company Accounting Oversight Board, or any other financial regulator for failure to comply with financial requirements or for having inadequate books and records while the individual was engaged in those activities?
  
• Are there any pending actions against the individual or a firm for which the individual performed auditing, accounting, or bookkeeping?

This is not an exclusive list. If the individual or a firm for which the individual worked (either as an independent contractor or an employee) was subject to an emergency action, sanctioned by a financial regulator, or is subject to a pending action, the FDM and the listed principal/registered AP responsible for the FDM's financial books and records should consider the nature and seriousness of the conduct (or alleged conduct) and the individual's role in it. An NFA Member Responsibility Action or an emergency action by another financial regulator is always an extremely serious matter.

The Forex Dealer Member and its financial principal must also conduct due diligence and consider analogous information when selecting an independent public accountant to certify the firm's annual financial statements.

An adequate supervisory program should also include periodic on-site visits to branch offices, guaranteed introducing brokers, and otherwise unregulated affiliates that conduct forex business on behalf of the Member. The Member needs to determine the frequency and nature of these visits. The number of visits will depend on the amount of business generated, the number of customer complaints received, the training and experience of the office personnel, and the frequency and nature of problems that arise from the office.

Finally, a Member's supervisory responsibilities include the obligation to ensure that its employees are properly trained to perform their duties. The formality of a training program will depend on the size of the firm and the nature of its business. Procedures should be in place to ensure that supervisory personnel know and understand the firm's supervisory procedures and that employees receive adequate training to abide by NFA requirements and to properly handle customer accounts.

4. Recordkeeping - Members must keep books and records relating to their forex operations for a period of five years from the date thereof and shall keep them readily accessible during the first 2 years of the 5-year period. All such books and records shall be open to inspection by NFA.

Members should adopt and enforce reasonable procedures to create current and accurate books and records and to keep them from being altered or destroyed. Such records must include, among other things, financial records substantiating a Members assets and liabilities, including liabilities owed to customers and receivables from other persons. The Member should be able to promptly produce its records in a format that NFA can read and reproduce.

Forex Dealer Members should adopt and enforce a written policy detailing the procedures it follows to calculate rollover or interest charges and payments. The policy must include the factors that are considered as well as the names of any sources for these factors. The Member should document the underlying factors reviewed in completing the calculation, including any related transactions entered into by the Forex Dealer Member, so it can be replicated.

5. Communications with the Public and Promotional Material - No Member or Associate shall make any communication with potential or current customers that operates as a fraud or deceit; uses a high-pressure approach; or implies that forex transactions are appropriate for all persons.

Promotional material used by the Member or Associate shall not:

• Deceive the public or contain any material misstatement of fact or omit a fact that makes the promotional material misleading;⁸

• Include any statements of opinion unless they are clearly identified as such and have a reasonable basis in fact;

• Mention the possibility of profit unless accompanied by an equally prominent statement of the risk of loss;

• Include any reference to actual past trading profits without mentioning that past results are not necessarily indicative of future results;

• Include any statistical or numerical information about past performance of actual accounts unless the Member can demonstrate that the performance is representative of actual performance of all reasonably comparable accounts for the same period (calculated in accordance with the formula in CFTC Regulation 4.35(a)(6) and NFA Compliance Rule 2-34); or

• Include testimonials unless they are representative of all reasonably comparable accounts, the material prominently states that the testimonial is not indicative of future performance or success, and the material prominently states that they are paid testimonials (if applicable).

No Member or Associate may represent that forex funds deposited with a Forex Dealer Member are given special protection under the bankruptcy laws. No Member or Associate may represent or imply that any assets necessary to satisfy its obligations to customers are more secure because the Member keeps some or all of those assets at a regulated entity in the United States or a money center country.

No Member or Associate may represent that its services are commission free without prominently disclosing how it is compensated in near proximity to that representation.

No Member or Associate may represent that it offers trading with "no-slippage" or that it guarantees the price at which a transaction will be executed or filled, unless:

• It can demonstrate that all orders for all customers have been executed and fulfilled at the price initially quoted on the trading platform when the order was placed;⁹ and

• No authority exists, pursuant to a contract, agreement, or otherwise, to adjust customer accounts in a manner that would have the direct or indirect effect of changing the price at which an order was executed.¹⁰

Members and Associates may not solicit customers based on the leverage available unless they balance any discussion regarding the advantages of leverage with an equally prominent contemporaneous disclosure that increasing leverage increases risk.

No Member shall use or directly benefit from any radio or television advertisement that recommends specific forex transactions or describes the extent of any profit obtained in the past or that can be obtained in the future unless the member submits the advertisement to NFA's Promotional Material Review Team for its review and approval at least 10 days prior to its first use or such shorter period as NFA may allow.¹¹

Every Member should adopt and enforce written procedures to supervise communications with potential and current customers and promotional material. A supervisory employee that is, or is under the ultimate supervision of, a listed principal who is also an NFA Associate should review and approve all promotional material and make a written record of such review and approval.¹²

All promotional material should be maintained by each Member and be available for examination for the periods specified in the recordkeeping section of this notice, measured from the date of last use.

6. Know Your Customer - Members and Associates have a duty to acquaint themselves sufficiently with the personal and financial circumstances of each forex customer to determine what further facts, explanations and disclosures are needed in order for the customer to make an informed decision on whether to enter into forex transactions.

Every Member should determine what information it will obtain from a prospective forex customer. At a minimum, the Member soliciting the customer to engage in forex transactions should obtain the customer's name, address, principal occupation or business, current estimated annual income and net worth, approximate age, and an indication of the customer's previous investment and trading experience. Members and their Associates need to ensure that each customer they solicit has received adequate information concerning the risks of forex transactions so that the customer can make an informed decision as to whether forex transactions are appropriate for the customer. These obligations fall on the Forex Dealer Member when a non-Member solicits the customer.

7. Doing Business with Non-Members - Forex Dealer Members are subject to discipline for the activities of most non-Members who solicit or introduce forex customers to the Forex Dealer Member or manage accounts for those customers.

If a customer is solicited or introduced by a non-Member of NFA, or if the customer's account is managed by a non-Member, the Forex Dealer Member is subject to discipline for the non-Member's conduct if that conduct would violate NFA requirements when engaged in by an NFA Member. In other words, a Forex Dealer Member is subject to an NFA disciplinary action for the non-Member's activities when soliciting, introducing, or managing accounts for the Forex Dealer Member's customers even if the non-Member was not the Forex Dealer Member's agent.

The rule allows NFA to bring a disciplinary action even if the Forex Dealer Member acts diligently and has no knowledge of the third-party's conduct. As a practical matter, however, NFA will not take disciplinary action unless the Forex Dealer Member knew or should have known of the third-party's conduct or failed to exercise due diligence when establishing and maintaining the relationship with the third party.

A Forex Dealer Member should adopt and enforce written procedures to review the activities of non-Member third parties. The procedures should include, among other things, a regular review of the trading being conducted in the accounts solicited, introduced, or managed by these non-Members. The Member should also have procedures for following up on any customer complaints received by the firm, including a written description of the investigation made by the Member and any resolution of the complaint. Further, supervisory procedures should include a regular review of all promotional material used by any non-Member third-party. The member should maintain copies of all promotional materials reviewed, along with a written record of the review conducted and any deficiencies corrected, and make them available for examination for the periods specified in the recordkeeping section of this notice. A supervisory employee that is, or is under the ultimate supervision of, a listed principal who is also an NFA Associate should conduct the review of the non-Member's activities.

The Forex Dealer Member is not subject to discipline for the actions of non-Members who are described in NFA Bylaw 306(b). It is also not subject to discipline for the actions of non-Members who would be exempt from Commission registration if they were acting in the same capacity in connection with exchange-traded futures contracts, such as foreign persons that solicit, introduce, or manage accounts for foreign customers only.¹³ The Forex Dealer Member does, of course, have certain basic duties to its customers, including a duty to supervise its own activities in a way designed to ensure that it treats its customers fairly. Specifically, the Forex Dealer Member would violate this duty if it has actual or constructive notice that one of these entities engaged in fraudulent conduct and fails to take appropriate action.

8. Affiliates - Forex Dealer Members must supervise and are subject to discipline for the activities of affiliates that are authorized to engage in forex transactions solely by virtue of their affiliation with a Forex Dealer Member.

The CEA authorizes affiliates of FCMs to act as counterparties to forex transactions if the affiliate directly or indirectly controls, is controlled by, or is under common control with the FCM and the FCM makes and keeps records regarding the financial activities of the affiliate for purposes of the Commission's risk assessment requirements.¹⁴ If a Forex Dealer Member has one or more affiliates that act as counterparty to forex customers solely on the basis of that affiliation, the Forex Dealer Member must supervise the affiliate's forex activities and is subject to discipline for that affiliate's activities.¹⁵ The Forex Dealer Member must also make these affiliates' books and records available to NFA upon request. Additionally, the Forex Dealer Member must assure that its affiliates do not act as counterparties to forex transactions unless they are authorized to do so under the Act.

9. BASIC Disclosure - Members must provide forex customers with information on NFA's BASIC system.

NFA Compliance Rule 2-36(g) requires Forex Dealer Members to provide customers with written information regarding NFA's Background Affiliation Status Information Center (BASIC), including the web site address ¹⁶. This information must be provided when the customer first opens an account and at least once a year thereafter.

Forex Dealer Members may provide the information electronically but must do it in a way that ensures each customer is aware of it. For example, merely having the information on the Member's web site is not adequate, but sending customers an e-mail including a link to that information and explaining what the link is would be sufficient in most circumstances.

10. Discretion - No Forex Dealer Member, or Associate of a Forex Dealer Member acting in such capacity, may exercise discretionary trading authority over a customer account for which the Forex Dealer Member is, or is offering to be, the counterparty to the transactions in the customer account.

C. OTHER REQUIREMENTS

This section of the notice provides guidance on dues, capital requirements, and security deposits. These requirements apply only to Forex Dealer Members.

1. Bylaw 1301

NFA Bylaw 1301(e) requires Forex Dealer Members to pay annual dues that are graduated according to the firm's gross annual revenue from customers (e.g., commissions, mark-ups, mark-downs) for its forex activities. Profits and losses from proprietary trades are not to be included. To calculate dues:

• Start with the FCM dues imposed by NFA Bylaw 1301(b)(ii);

• Add $44,375 if the Forex Dealer Member's gross annual revenue from forex transactions is $500,000 or less;

• Add $69,375 if the Forex Dealer Member's gross annual revenue from forex transactions is more than $500,000, but not more than $2,000,000;

• Add $94,375 if the Forex Dealer Member's gross annual revenue from forex transactions is more than $2,000,000, but not more than $5,000,000; or

• Add $119,375 if the Forex Dealer Member's gross annual revenue from these activities is more than $5,000,000.

These dues apply when the Forex Dealer Member offers to be a counterparty to a forex transaction or accepts a forex trade (whichever is earlier), and NFA will send the Member an invoice for the minimum dues ($50,000 or $45,875) minus any amount already paid for that membership year. Thereafter, the dues will be assessed on the firm's membership renewal date and will be based on the Forex Dealer Member's latest certified financial statement.

The only exception to the dues set forth above is a situation in which NFA does not serve as the DSRO for a Forex Dealer Member and the DSRO has agreed to examine the Forex Dealer Member's forex activities. In this case, the surcharge paid by the Forex Dealer Member, regardless of gross annual revenue, is $12,000. Accordingly, for such a Forex Dealer Member the dues to be assessed at the time it offers to be a counterparty to a forex transaction or accepts a forex trade (whichever is earlier), and on its membership renewal date thereafter, will be $13,500.

Under NFA Compliance Rule 2-36(d), a Forex Dealer Member is subject to discipline for the activities of any person that solicits or introduces a customer to the Member or manages a customer's account unless that person is a Member or Associate of NFA, is otherwise regulated based on the criteria in Bylaw 306(b), or would be exempt from CFTC registration if it were acting in the same capacity in connection with exchange-traded futures contracts. Any Forex Dealer Member that is responsible under Compliance Rule 2-36(d) for solicitors and account managers is required to pay a separate annual fee on the firm's annual renewal date based on the number of unregulated solicitors and account managers. In determining whether this fee applies, the Forex Dealer Member should take the highest number of separate legal entities, including individuals acting as sole proprietors, that it was responsible for at any one time during the year. The following table shows this graduated fee.

Each Forex Dealer Member is also required to pay an assessment of .0001% on the notional value of each forex transaction (as forex is defined in Bylaw 1507(b)). This equates to $.01 for each $10,000. For transactions with a notional value less than $10,000, the firm may aggregate separate transactions and pay $.01 on each multiple of $10,000. For transactions of $10,000 or above, the firm should round to the nearest cent.

This assessment is due only on initiating transactions. There is no assessment on rollovers, offsetting transactions, option expirations, or option exercises that do not result in new positions. The Member must remit the assessment to NFA within 30 days after the end of the month in which the transaction was initiated.

2. Financial Requirements Section 11(a)

Forex Dealer Members must maintain adjusted net capital equal to or in excess of the greatest amount specified in subsections (a)(i), (a)(ii), and (a)(iii) (if applicable). Subsection (a)(ii) applies to Forex Dealer Members that execute any customer transactions other than by using straight-through-processing and that also have liabilities to customers of more than $10 million. Where it applies, the Member’s capital requirement is the minimum capital required by subsection (a)(i) plus 5% of the liabilities over $10 million. The formula is:

Amount required by (a)(i) + .05(customer liabilities - $10,000,000)

For example, if the minimum capital requirement is $20 million, a Forex Dealer Member that operates a dealing desk and has $208 million in liabilities to customers would be required to maintain adjusted net capital equal to or in excess of $29.9 million.

Forex Dealer Members with over $10 million in customer liabilities are subject to this alternative requirement unless they execute all customer transactions using straight-through-processing. Straight-through-processing refers to platforms that automatically (without human intervention and without exception) enter into an identical but opposite transaction with another counterparty, creating an offsetting position in the Forex Dealer Member’s own name. A Forex Dealer Member that offers several platforms will be exempt from this requirement only if each platform executes all customer orders using straight-through-processing.

This requirement that all customer trades be executed by straight-through-processing is not, however, meant to limit a firm’s ability to provide for other methods in its disaster recovery procedures. As long as those other methods are used only when dictated by those procedures and both the procedures and the firm’s trading platform are designed to ensure that the need will rarely arise, the FDM will not lose its exemption by implementing other execution methods in disaster recovery situations.

3. Financial Requirements Section 11(b)

Section 11(b) prohibits a Forex Dealer Member from including assets held by an affiliate (unless approved) or an unregulated person in the firm's current assets for purposes of determining its adjusted net capital under CFTC Rule 1.17. This means an FDM may not count any part of those assets for capital purposes.¹⁷

An unregulated person is any person that is not:

(i) a financial institution regulated by a U.S. banking regulator;

(ii) a broker-dealer registered with the U.S. Securities and Exchange Commission and a member of FINRA;

(iii) a futures commission merchant registered with the U.S. Commodity Futures Trading Commission and a Member of NFA;

(iv) an insurance company regulated by any U.S. state;

(v) an entity regulated as a foreign equivalent of any of the above if regulated in a money center country as defined in CFTC Regulation 1.49; or

(vi) any other entity approved by NFA.

Effective October 1, 2010, the above paragraph will read as follows:

An unregulated person is any person that is not:

(i) a financial institution regulated by a U.S. banking regulator;

(ii) a broker-dealer registered with the U.S. Securities and Exchange Commission and a member of FINRA;

(iii) a futures commission merchant registered with the U.S. Commodity Futures Trading Commission and a Member of NFA;

(iv) a retail foreign exchange dealer registered with the U.S. Commodity Futures Trading Commission and a Member of NFA;

(v) an insurance company regulated by any U.S. state; or

(vi) any other entity approved by NFA.

• Whether the person is regulated in another jurisdiction and, if so, the type and extent of regulation;

• The person's capital; and

• The person's credit rating.

NFA's approval of a particular person means that all unaffiliated Forex Dealer Members may treat that person as regulated under Sections 11(b) and (c). NFA may also approve categories of counterparties (e.g., banks regulated in a particular jurisdiction or with a particular credit rating).

A Forex Dealer Member may not engage in Section 11(b) or (c) transactions with a regulated affiliate without NFA's approval. The Member may, however, ask NFA to authorize it to cover its positions with specified affiliates (including unregulated affiliates). An affiliate is any entity that controls, is controlled by, or is under common control with the Forex Dealer Member. The standards for approving affiliated persons are significantly higher than those for unaffiliated persons. For example, NFA will also consider:

• The parent company's and affiliated person's capital;

• Whether the parent company and the affiliated person are regulated entities;

• Whether the parent company will guarantee the obligations of the affiliated person (unless the parent company and the affiliated person are the same entity);

• The parent company's credit rating;

• Whether the affiliated person has strong risk-management policies to limit its value-at-risk; and

• For purposes of Section 11(c), whether the affiliated person limits the amount of offsetting transactions it enters into with unregulated counterparties.

4. Financial Requirements Section 11(c)

Section 11(c) prohibits Forex Dealer Members from using affiliates (unless approved) and unregulated persons to cover their foreign currency positions for purposes of CFTC Rule 1.17(c)(5).

The rule does not prohibit Forex Dealer Members from entering into positions with unregulated or unapproved counterparties. They may not, however, count positions with those counterparties when calculating their covered positions for purposes of CFTC Rule 1.17(c)(5).

For purposes of Section 11(c), Forex Dealer Members have four different types of counterparties. In particular:

• Account holders are those counterparties for whom it carries accounts and includes both retail customers and eligible contract participants.

• Trading partners are counterparties with whom the Member trades but who do not have accounts with the Member. For purposes of the calculations under Section 11(c), this category does not include affiliates (approved or unapproved) or regulated counterparties.

• Affiliates are entities that control, are controlled by, or are under common control with the Forex Dealer Member. For purposes of Section 11(c) only, this category does not include affiliates who have been approved by NFA under Section 11(b).

• Regulated entities are those counterparties that meet the definition in Section 11(b) and include entities-including affiliates-approved by NFA under that Section.

A Forex Dealer Member is required to take a charge on the larger of its unnetted long or short position but not on both.

Example

Assume a Forex Dealer Member has the following Euro positions:

In determining the uncovered amount for purposes of the 6% haircut, the Forex Dealer Member can offset its net long position with account holders against the net short position with regulated entities but cannot offset its position with its trading partners or its position with unapproved affiliates against any category except regulated entities.

The math works this way (using only absolute numbers):

Net long position with account holders	5,143,118
Minus net short position with regulated entities	-2,844,463
	2,298,655
Uncovered long position with account holders	2,298,655
Plus net long position with affiliates	+1,150,201
Total uncovered long position	3,448,856
Net short position with trading partners	2,312,541
Larger of net long or short position	3,448,856
Haircut on Euros (3,448,856 X .06)	$206,931

5. Financial Requirements Section 12

Forex Dealer Members must collect security deposits from forex customers equal to 1% of the notional value of transactions in specified foreign currencies and 4% of the notional value of all other transactions. Where the two currencies are in different categories, the Forex Dealer Member must collect the higher amount. If the transaction pairs a foreign currency with the U.S. dollar, the security deposit is based on the foreign currency. If the transaction pairs a currency that qualifies for a 1% deposit with a currency that does not, the Forex Dealer Member must collect a 4% security deposit for the entire transaction. For example:

¹ The Board of Directors has declared that these transactions are a proper subject of NFA regulation and oversight under Article XVIII, paragraph (k).

² Compliance Rule 2-39 excludes these same entities when they introduce or manage forex accounts.

³ Bylaw 306(b)(ii) excludes broker-dealers that are members of any fully-registered national securities association and FCMs that are members of another registered futures association. At this time, however, FINRA is the only fully-registered national securities association and NFA is the only registered futures association.

⁴ These are affiliates of broker-dealers for which the broker-dealer makes and keeps records under the Securities and Exchange Commission's risk assessment requirements. See Section 17(h) of the Securities Exchange Act of 1934 and SEC Rule 17h-1T.

⁵ See, for example, Compliance Rule 2-9: Supervision of Branch Offices and Guaranteed IBs, NFA Manual paragraph 9019; Compliance Rule 2-9: Supervisory Procedures for E-Mail and the Use of Web Sites, NFA Manual paragraph 9037; Compliance Rule 2-9: Supervision of the Use of Automated Order-Routing Systems, NFA Manual paragraph 9046. These interpretive notices do not directly apply to forex activities, but the principles included in these notices are equally applicable to those activities.

⁶ The Commodity Futures Trading Commission has stated that all employees of an FCM who solicit or accept orders for forex transactions from retail customers must be registered with the Commission as an associated person of the FCM. See Division of Trading and Markets Advisory Concerning Foreign Currency Trading by Retail Customers (March 2002).

⁷ The screening process should include 1) checking BASIC and any other readily available sources and 2) asking the third-party to represent that neither it nor any of its principals is subject to a statutory disqualification or to identify and explain any statutory disqualifications.

⁸ Through interpretive notices issued under NFA Compliance Rule 2-29, NFA has provided Members with guidance on what activities are deceptive and misleading. See, for example, NFA Compliance Rule 2-29: Deceptive Advertising, NFA Manual paragraph 9033; NFA Compliance Rule 2-29: Deceptive Advertising, NFA Manual paragraph 9034; Compliance Rule 2-29: High Pressure Sales Tactics, NFA Manual paragraph 9038; and NFA Compliance Rules 2-29 and 2-9: NFA's Review and Approval of Certain Radio and television Advertisements, NFA Manual paragraph 9039. Although these interpretive notices do not directly apply to forex activities, the principles included in them with regard to what is deceptive or misleading are equally applicable to those activities.

⁹ The Forex Dealer Member is not required to give the customer a price that is no longer reflected on the platform at the time the order reaches it. The Forex Dealer Member is not responsible for transmission delays outside its control. If an Forex Dealer Member, however, advertises "no-slippage" or that it guarantees fill prices, it must prominently disclose that transmission delays might result in customer orders being executed at a price other than that seen by the customer.

¹⁰ This includes force majeure provisions.

¹¹ Submission of promotional materials for NFA review is not a substitute for a Member's own responsibility to review promotional material. NFA staff will not independently verify the accuracy of statements made in an advertisement; that responsibility remains with the Member. Submitting promotional material to NFA will not provide a "safe harbor" from NFA actions for Members if misstatements or omissions of material fact are discovered subsequently or NFA otherwise later determines that the material is in violation of any applicable standards.

¹² Under traditional legal principles, Members can also be liable for promotional material promoting forex trading systems developed by third-parties. For example, a Member has direct responsibility for misleading promotional material if the Member prepares or distributes it; has agency responsibility if the system developer is an agent of the Member under established principles of agency law; and has supervisory responsibility if the Member fails to supervise its own employees when linking to a third-party trading system developer's web site, recommending a third-party's trading system, or entering into a referral agreement with a third-party system developer. See Interpretive Notice titled "NFA Bylaw 1101, Compliance Rules 2-9 and 2-29: Guidelines Relating to the Registration of Third-Party Trading System Developers and the Responsibility of NFA Members for Promotional Material That Promotes Third-Party Trading System Developers and their Trading Systems," NFA Manual, paragraph 9055.

¹³ For this purpose, foreign persons and foreign customers are 1) natural persons who are not residents of the United States or 2) legal entities (other than passive investment vehicles) that are organized under the laws of a country other than the United States, do not have their principal place of business in the United States, and do not conduct their retail forex activities from a location in the United States. Those terms do not include a passive investment vehicle that is more than 10% owned by United States persons or that solicits United States persons who are not eligible contract participants as defined in Section 1a(12) of the Act. "United States" includes U.S. territories and possessions.

¹⁴ See Sections 2(c)(2)(B)(ii)(III) and 4f(c)(2)(B) of the CEA and CFTC Regulations 1.14 and 1.15.

¹⁵ Obviously, the Forex Dealer Member must also ensure that no entity with common ownership engages in the forex business unless it is authorized to do so.

¹⁶ Forex Dealer Members can comply with this requirement by providing customers with a copy of NFA's brochure entitled "Background Affiliation Status Information Center (BASIC): An Information Resource for the Investing Public," which is available in print and on NFA's website at www.nfa.futures.org.

¹⁷ Where the CFTC's requirements for holding current assets are more stringent, those requirements apply.