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EXPLANATION OF PROPOSED AMENDMENTSIn November 2000 the Board of Directors - responding to a letter from then CFTC Chairman Rainer - asked NFA's Special Committee to Review Technology ("Special Committee") to develop standards relating to security, capacity, and controls for automated order-routing systems (AORSs) that rout orders through an FCM. The Board also directed the Special Committee to find a middle ground between one-size-fits-all requirements that mandate specific technology and guidelines that are so general as to be meaningless.
Content of the Interpretive Notice
The proposed interpretive notice recognizes that Members have a supervisory responsibility to process orders in a reliable and timely manner and to impose credit and risk-management controls on trading done by any particular customer. The notice also recognizes that supervisory standards do not change with the medium used but that how those standards are applied may be affected by technology. Therefore, as the Board directed, the notice tries to achieve a middle ground between one-size-fits-all requirements that mandate specific technology and guidelines that are so general as to be meaningless.
Regarding security, the notice states that Members who accept orders must adopt and enforce written procedures reasonably designed to protect the reliability and confidentiality of orders and account information at all points during the order-routing process. To that end, the notice states that Members should have procedures regarding authentication of users, encryption of information, firewalls, authorization of users, periodic testing of the AORS's security systems, and who will administer system security.
On the subject of capacity, the notice provides that Members who accept orders must adopt and enforce written procedures reasonably designed to maintain adequate personnel and facilities for the timely and efficient delivery of customer orders and reporting of executions. In this regard, the procedures should cover capacity reviews, disaster recovery and redundancies, and advance disclosure to customers of both potential systems problems and alternative procedures for customers to use if problems occur.
In connection with credit and risk-management controls, the notice states that Members who accept orders must adopt and enforce written procedures reasonably designed to prevent customers from entering into trades that create undue financial risks for the Member or the Member's other customers. In particular, the procedures should address pre-execution and post-execution controls and how to determine which controls apply to a particular customer, special considerations for authorizing use of direct access systems, and on-going review of the controls imposed.
The Special Committee sent a notice to all NFA Members requesting comments on the proposed interpretive notice. NFA received nine comment letters.9 The FCM, IB, and CPO/CTA Advisory Committees also provided comments. In general:
- All of the commenters except the FCM Advisory Committee supported NFA's efforts to provide guidance to Members on their supervisory responsibilities for orders entered through an AORS;
- Several of the commenters questioned the specific approach taken by the proposed interpretive notice, which they interpreted as being overly prescriptive rather than simply providing guidance; and
- Some commenters believed that NFA should not mandate that the supervisory procedures be in writing. Some commenters also felt that it is unnecessary to have procedures covering protections that are already written into an automated system.
- In contrast to the other commenters, the FCM Advisory Committee felt that NFA should not issue interpretive guidance on the use of AORSs. The FCM Advisory Committee believes that decisions regarding AORSs should be a matter of business judgment, not regulation.
The Special Committee considered all of the comments that it received. Although it recognized the FCM Advisory Committee's concerns, the Special Committee believed that its mandate from the Board required it to propose interpretive guidance. The Special Committee also believed, however, that the industry needs guidance and that it is appropriate for NFA to issue it. The Special Committee believes that the interpretive notice provides that guidance by clarifying existing requirements.
As noted above, some of the commenters felt the interpretive notice was too prescriptive. As a general matter, the Special Committee believed that the standards must be clear enough to provide meaningful guidance and ensure that firms can be audited for compliance. The Special Committee did, however, agree with a number of the specific comments that were made and revised the interpretive notice accordingly.
Finally, despite some comments, the Special Committee believed that the supervisory procedures should be in writing. It did, however, add a footnote to clarify that the procedures do not have to contain technical specifications or duplicate procedures that are documented elsewhere.
The Board agreed with the Special Committee's conclusions and adopted the notice as recommended.