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September 16, 2013
New Recordkeeping Requirements under NFA Compliance Rule 2-10(a) and CFTC Regulation 1.35(a) and Guidance for Relying on Other Commission Registrants for Complying with the New Recordkeeping Requirements
NFA Compliance Rule 2-10(a) provides, in part, that each member shall maintain adequate books and records necessary and appropriate to conduct its business including, without limitation, the records to be kept by CFTC Regulation 1.35(a). In December 2012, the CFTC made significant changes to Regulation 1.35(a), which become effective later this year and are described below.
CFTC Regulation 1.35(a) requires FCMs, IBs, and RFEDs1 to keep full, complete, and systematic records, which include all pertinent data and memoranda, of all transactions relating to their business of dealing in commodity interests and related cash or forward transactions. The CFTC's December 2012 amendments to Regulation 1.35(a), which become effective on December 21, 2013, newly impose these recordkeeping requirements on certain oral communications. Additionally, the CFTC amended Regulation 1.35(a) to clarify the coverage of its recordkeeping requirements as applicable to written electronic communications. These latter amendments became effective on February 19, 2013.
The Recording of Oral Communications
The recent amendment specifies that FCMs, certain IBs and RFEDs are required to keep a record of (and therefore tape record) all oral communications provided or received concerning quotes, solicitations, bids, offers, instructions, trading and prices that lead to the execution of a transaction in a commodity interest and related cash or forward transaction, whether communicated by telephone, voicemail, mobile device, or other digital or electronic media for a period of one year.2 The CFTC's rulemaking made clear that any conversation must be recorded if it meets the content described in Regulation 1.35(a), regardless of whether it occurred on a firm provided or personal phone. The amendment also requires that the records be kept in a form and manner identifiable and searchable by transaction. As stated above, the amendments to Regulation 1.35(a) imposing recordkeeping requirements on oral communications become effective on December 21, 2013.
CFTC Regulation 1.35(a)(2) defines a "related cash or forward position" as a purchase or sale for immediate or deferred physical shipment or delivery of an asset related to a commodity interest transaction where the commodity interest transaction and the related cash or forward transaction are used to hedge, mitigate the risk of, or offset one another. Final Regulation 1.35(a) does not require that oral communications that lead solely to the execution of a related cash or forward transaction be tape recorded.
Limited Exceptions To The Recording Requirement For Oral Communications
The CFTC's amendments to Regulation 1.35(a) apply to all NFA Member FCMs, IBs, and RFEDs unless they meet one of the following two limited exceptions:
Regulation 1.35(a)(1)(iii) provides that any IB that generates $5 million or less in aggregate gross revenues from its activities as an IB over the preceding three years (in total for the preceding three years, not per year for three years) is not required to tape record oral communications. All IBs, regardless of gross revenues, however, remain required to maintain written records of covered information (e.g., order information) that is given or received over the telephone.
Regulation 1.35(a)(4)(i) provides that the CFTC's Director of the Division of Swap Dealer and Intermediary Oversight (DSIO) may establish an alternative compliance schedule if the requirement to record oral communications is found to be technologically or economically impracticable for an affected entity that seeks, in good faith, to comply with the requirement. DSIO has informed NFA that each affected FCM, IB, or RFED must submit a request for relief to DSIO (and not NFA) at Three Lafayette Centre, 1155 21st Street, NW, Washington, DC 20581, which includes the following:
A factual basis why its claim that compliance with the oral communications recordkeeping requirement is technologically or economically impracticable;
The specific costs and technical obstacles particular to the firm; and
The efforts the entity intends to make to ensure compliance according to an alternative compliance schedule.
CFTC Regulation 1.35(a)(4)(ii) provides that a firm's request for relief shall be acted upon within 30 days or it shall be deemed approved.
As a reminder, the CFTC's recent amendments also clarify that the recordkeeping requirements under Regulation 1.35(a) apply to all electronic written communications, including emails, chat rooms, mobile device, other digital or electronic media, or instant messages, that are provided or received concerning quotes, solicitations, bids, offers, instructions, trading, and prices that lead to the execution of a transaction in a commodity interest and related cash or forward transactions. The new language is not intended to impose any additional recordkeeping requirements but rather the CFTC sought to clarify the forms of communication that are covered by the recordkeeping requirement. These written communication records must be kept for 5 years and must be identifiable and searchable by transaction.
Guidance for Relying on Other Commission Registrants for Complying with the Recordkeeping Requirement
The CFTC's December 2012 rulemaking provides that while complying with Regulation 1.35(a)'s recordkeeping requirements is the responsibility of each covered FCM, IB, or RFED, and these persons will be liable for failure to comply, depending on the type of record or arrangements made for access, covered persons may reasonably rely upon a designated contract market, swap execution facility or other CFTC registrant to maintain certain records on their behalf. For example, a guaranteed IB (GIB) that must record oral communications may rely on its guarantor FCM to satisfy its obligations to record and retain the specified oral communications provided:
- The FCM's recording of the oral communication duplicates the information the GIB is required to record and maintain under Regulation 1.35(a);
- The FCM maintains the record in accordance with Regulation 1.35(a) and 1.31;
- The FCM provides the GIB with access to the record; and
- The FCM and GIB enter into a written agreement specifying each party's responsibilities and requiring the FCM to make and retain the record in accordance with CFTC Regulations 1.35(a) and 1.31, and provide the GIB with access to the record.
A GIB is reminded, however, that reliance on its guarantor FCM to satisfy its recordkeeping obligations does not relieve the GIB of the responsibility to comply with Regulations 1.35(a) and 1.31. Therefore, if the FCM does not meet the requirements of Regulation 1.35(a) and 1.31 on behalf of the GIB, then the GIB may still be held liable.3
Member FCMs, IBs, and RFEDs should be aware that the CFTC's rulemaking also stated that for records other than recordings of oral communications (e.g., instant messages and emails) a covered FCM, IB and RFED may not rely upon another CFTC registrant's recordkeeping unless the other CFTC registrant has a complete record of the distribution of the message by the sender.
If the CFTC provides any further guidance regarding a Member FCM's, IB's, or RFED's obligation to record oral communications, then NFA will provide notice of the further guidance. If you have any questions on this Notice, please contact Peter Krol, Manager - Compliance, email@example.com or 312-781-1291 or Jason Gonzalez, Manager - Compliance at firstname.lastname@example.org or 312-781-1319.
1 The requirements discussed in this notice also apply to CTAs that are members of a Designated Contract Market or Swaps Execution Facility.
2 The Commission made clear that the recording of face-to-face conversations is not required unless they occur over electronic, digital, or other media.
3 FCMs, non-Guaranteed IBs, and RFEDs may also rely on other Commission registrants to maintain certain records on its behalf under the circumstances discussed above.