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A) Explanation of Proposed NFA Compliance Rule 2-36
As the Commission is aware, the Commodity Futures Modernization Act amends the Commodity Exchange Act to make it clear that it is unlawful to offer off-exchange foreign currency futures and options contracts to retail customers unless the offeror is an enumerated regulated financial entity, including a futures commission merchant or its affiliate. Under this amendment, NFA Member FCMs are authorized to offer off-exchange foreign cur-rency futures and options contracts to retail customers - although NFA does not have any rules that govern these transactions.
Off-exchange, retail foreign currency business has historically been a breeding ground for fraudulent activities. NFA believes that it must adopt appropriate rules governing this business in order to avoid the untenable situation of an NFA Member engaging in fraudulent forex activities that would not be a violation of NFA Rules. To that end, NFA staff is currently analyzing the practices of forex firms for the purpose of adopting a more comprehensive set of rules regarding retail foreign currency transactions. In the meantime, the Board is proposing the adoption of Compliance Rule 2-36 to prohibit NFA Members and Associates from engaging in fraudulent activities involving off-exchange foreign cur-rency futures and options transactions. Proposed Compliance Rule 2-36 is modeled after Compli-ance Rule 2-2, NFA's anti-fraud rule governing exchange-traded futures and options trans-actions. In addition, proposed Rule 2-36 contains a provision prohib-iting a Member or Associate from engaging in any foreign currency futures or options transaction that is prohibited under the Commodity Exchange Act.
The purpose of proposed Rule 2-36 is twofold. First, the general prohibition is designed to make it clear that it is a violation of NFA Rules for an NFA Member that is not an FCM to act as a counterparty to a foreign currency futures or options transaction with a retail customer. Second, the Rule is designed to cover the activities of NFA Member FCMs engaging in foreign currency transactions that are not executed on a designated contract market and therefore are not subject to the provisions of Compliance Rule 2-2.
B) Explanation of Proposed Amendments to NFA Registration Rule 204
The Commodity Futures Modernization Act of 2000 ("CMFA") allows broker/dealers registered with the SEC to "passport" into registration as FCMs or IBs if they limit their futures-related activities to the sale of security futures products on contract markets or derivative transaction execution facilities. The Commission has issued proposed regulations to implement these provisions, and NFA needs to conform its registration rules to the regulations of the CFTC.
The proposed amendments to Rule 204 provide that broker/dealers who are registered with the SEC, are members of the NASD, and limit their futures activities as required will become registered upon the filing of a Notice Form 7-R. The proposed amendments to Rule 204 also provide that if the NASD or SEC suspends the broker/dealers' membership or registration, respectively, its FCM or IB registration will be immediately suspended. Similarly, if the broker/dealer is no longer a registered broker/dealer with the SEC or a member of the NASD or no longer limits its futures business activities to security futures products, its FCM or IB registration will be immediately terminated. The amendments also provide that these "passported" firms are not required to file annual updates.