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October 01, 2003
Allocation of Bunched Orders
The Commodity Futures Trading Commission ("CFTC") has amended Regulation 1.35 (a-1)(5), which allows certain account managers to bunch customer orders for execution and to allocate them to individual accounts at the end of the day. The amended rule became effective on July 11, 2003.
NFA Compliance Rule 2-10 adopts CFTC Regulation 1.35 by reference. For the last several years, NFA has had two interpretive notices related to bunched orders, "Orders Eligible for Post-Execution Allocation" (paragraph 9036) and "The Allocation of Block Orders for Multiple Accounts" (paragraph 9029). Certain portions of these interpretive notices were inconsistent with the CFTC's revisions to Regulation 1.35. Therefore, NFA issued a Notice to Members on July 8, 2003 stating that NFA was in the process of revising those interpretive notices and, in the meantime, would not cite Members for non-compliance with those portions of the interpretive notices that were inconsistent with the new CFTC regulation.
NFA's Board of Directors has now adopted changes to these interpretive notices. The changes were submitted to and reviewed by the CFTC, and they became effective on September 15, 2003.
The amendments to CFTC Regulation 1.35(a-1)(5) make several significant changes. First and foremost, the amendments provide that certain account managers may use bunched orders for all futures customers, which affords retail customers the advantages previously only enjoyed by sophisticated customers. These advantages include better execution and pricing of their orders. Second, the amendments expand the category of eligible account managers. For example, in addition to registered CTAs and investment advisers who are currently eligible, account managers that are exempt or excluded from CFTC and SEC registration are now also eligible.
In addition to these significant changes regarding customer and account manager eligibility, the amendments also simplify the requirements for using bunched orders. For example, the amendments now require that account managers make certain information available to customers upon request, rather than mandating the disclosure of such information before bunching orders. The amendments also eliminate the requirement that account managers file a certification with an FCM before bunching.
Lastly, the amendments more clearly define the responsibilities of FCMs and account managers. Account managers, not FCMs, are responsible for the allocation of bunched orders. Account managers must provide FCMs with allocation information in a timely fashion, as soon as practicable after the order is filled and no later than necessary for each exchange's clearing records to identify the ultimate customer. Account managers must evaluate allocations for fairness and equity to ensure that no account or group of accounts consistently receive favorable or unfavorable treatment over time. FCMs will continue to have responsibility to monitor accounts for unusual allocation activity. FCMs and members of contract markets that execute post execution allocation orders must maintain records that identify each order subject to post execution allocation and the accounts to which contracts executed for such orders are allocated.
NFA has revised the 1997 interpretive notice, which is now entitled "NFA Compliance Rule 2-10: The Allocation of Bunched Orders for Multiple Accounts." The changes to this interpretive notice reorganize the original notice, make it consistent with the CFTC's amendments to Regulation 1.35(a-1)(5) and continue to provide important guidance relating to the use of bunched orders. For example, the amendments to the interpretive notice continue to:
- Require CTAs to use an allocation methodology designed to provide non-preferential treatment for all accounts (the specific allocation instructions may change daily based on certain factors, but the allocation methodology should not);
- Provide guidance on the type of allocation methodologies designed to provide non-preferential treatment;
- Require CTAs to analyze each trading program at least quarterly to ensure that the allocation method has been fair and equitable (i.e. customers in the same trading program achieve similar results over time) and to document this analysis; and
- Remind FCMs that they have certain basic duties to their customers in connection with these orders.
A copy of the revised interpretive notice can be accessed through NFA's website at http://www.nfa.futures.org/nfaManual/entireManual.asp#29. (If this link is inactive, copy and paste it into the address bar of your Web browser.)
In light of the amendments to Rule 1.35, NFA has rescinded the 1999 interpretive notice entitled "NFA Compliance Rule 2-10: Orders Eligible for Post-Execution Allocation."
If you have any questions about this notice, please contact John Brodersen, Associate Director, Compliance at (312) 781-2226.