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Mr. Greg Tanzer
IOSCO General Secretariat
C / Oquendo 12
Re: Public Comment on Principles on Outsourcing by Markets
Dear Mr. Tanzer:
National Futures Association (NFA) appreciates the opportunity to comment on the IOSCO Technical Committee's Principles on Outsourcing by Markets Consultation Report. NFA is a registered futures association under the U.S. Commodity Exchange Act (CEA) and an affiliate member of IOSCO. NFA is the industry-wide self-regulatory body for the U.S. futures industry and regulates the activities of approximately 4,000 member firms and over 50,000 registered account executives who work for those firms.
For almost ten years, NFA has provided regulatory services to electronic futures markets. NFA works closely with the CFTC to provide effective and efficient regulatory services that protect the integrity of those markets and ensure compliance by those markets with CFTC regulatory requirements.
The Role of Outsourcing for Futures Markets Seeking CFTC Designation as a Contract Market
Any market that seeks to provide a trading facility to trade futures, options on futures or options on commodities must apply to the CFTC to be designated as a contract market (DCM), unless some exemption or exclusion would apply to the facility1. DCMs may allow access to their facilities by all types of traders, including retail customers, and operate under the regulatory oversight of the CFTC.
In order to obtain and maintain its designation, a DCM must comply with the designation criteria established in Section 5(b) of the CEA and Part 38 of the CFTC Regulations. These criteria include:
- General demonstration of adherence to designation criteria;
- Prevention of market manipulation;
- Fair and equitable trading;
- Enforcement of rules on the trade execution facility;
- Financial integrity of transactions;
- Disciplinary procedures;
- Public access to information on the contract market; and
- Ability of the contract market to obtain information.
In addition, a DCM must also comply with the 18 core principles established in Section 5(d) of the CEA and Part 38 of the CFTC's rules:
- In general
- Compliance with rules
- Contracts not readily subject to manipulation
- Monitoring of trading
- Position limits or accountability
- Emergency authority
- Availability of general information
- Daily publication of trading information
- Execution of transactions
- Trade information
- Financial integrity of contracts
- Protection of market participants
- Dispute resolution
- Governance fitness standards
- Conflicts of interest
- Composition of boards of mutually owned markets
- Record keeping
- Antitrust considerations
The CFTC permits a DCM to outsource its trade practice and market surveillance (TPMS) functions to a third party, provided that the third party has the capacity and authority to carry out those functions and the contract market retains appropriate supervisory authority over the third party2. If a DCM outsources these functions, the contract between the DCM applicant and the third party must accompany the application. The contract must meet with the CFTC's approval in order for the CFTC to designate the applicant market as a DCM.
Because NFA has provided TPMS functions to a number of DCMS, the CFTC has had numerous opportunities to review the Regulatory Services Agreements (RSA) between the DCMs and NFA. NFA has worked closely with the CFTC to ensure that the terms of its RSAs satisfy the DCM's regulatory obligations with respect to the DCM's TPMS functions.
Comments on Consultation Report
Overall, NFA agrees with the proposed principles and the means for implementation that the report enunciates. NFA particularly believes that whether the service provider is itself regulated is a critical factor to be considered both in the market's selection of a service provider as well as the manner in which the outsourcing principles will be implemented. If the services provider is regulated, greater flexibility should be appropriate than is currently reflected in the report. Specifically, Topic 4: Security and Confidentiality of Information suggests the inclusion of certain contract provisions. However, because NFA is regulated by the CFTC and has regulatory obligations concerning the security of its systems and the confidentiality of the data in those systems, the specific contractual provisions contained in the report may not be necessary. NFA urges that the final report recognize this and include language that provides for flexibility in this regard.
Regarding Topic 6: Regulator's and Market's Access to Books and Records, including rights of inspection, NFA believes that the term, "Books and Records" may be overbroad. NFA agrees wholeheartedly that the market and regulator must have access to the data and other information and records provided by the market to or obtained or generated by the service provider in connection with the provision of the regulatory services. In fact, NFA's RSAs specifically define which party owns which records. However, as NFA understands the term, "Books and Records" it refers to the internal financial records of the service provider, which records NFA believes should not be made available to or subject to inspection by the market or the regulator even if they relate to the provision of the regulatory services. NFA encourages that the final report use more precise language in this regard and limit the access and inspection rights to the data and other information obtained or generated in connection with the provision of the services.
If you have any questions concerning this letter, please contact me at firstname.lastname@example.org.
Karen K. Wuertz
Senior Vice President,
Planning and Development
1 These exemptions include Designated Transaction Execution Facilities, Exempt Boards of Trade and Exempt Commercial Markets. NFA has provided regulatory services only to markets designated as DCMs.
2 Pursuant to Section 5c(b)(2) of the CEA, a DCM that delegates its TPMS function to a third party remains responsible for carrying out the function.