05-1906. Distribution of “Risk Disclosure Statement” by Futures Commission Merchants and Introducing Brokers

AGENCY:

Commodity Futures Trading Commission.

ACTION:

Final rule.

SUMMARY:

The Commodity Futures Trading Commission (“Commission” or “CFTC”) is amending Rule 1.55 to provide that non-institutional customers may indicate with a single signature, in addition to the acknowledgment of receipt of various disclosures and the making of certain elections, the consent referenced in Rules 155.3(b)(2) and 155.4(b)(2) and 155.4(b)(2) concerning customer permission for futures commission merchants (“FCMs”) and introducing brokers (“IBs”) to take the opposite side of an order. The Commission is also amending Rule 1.55(f) to specify that the acknowledgments required by Rules 155.3(b)(2) and 155.4(b)(2) are not required of institutional customers when they open an account.

DATES:

Effective March 7, 2005.

FOR FURTHER INFORMATION CONTACT:

Lawrence B. Patent, Deputy Director, or Susan A. Elliott, Special Counsel, Compliance and Registration Section, Division of Clearing and Intermediary Oversight, Commodity Futures Trading Commission. Three Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581. Telephone: [phone] or [phone], or electronic mail: [e-mail] or [e-mail].

SUPPLEMENTARY INFORMATION:

I. Background

On November 9, 2004 (69 FR 64873), the commission published a proposed amendment to Rule 1.55 to provide that the single signature by which non-institutional customers acknowledge receipt of basic risk disclosures of futures and option trading, and elect how hedging positions shall be handled in the event of a commodity broker bankruptcy, may also reflect the consent referenced in Rules 155.3(b)(2) and 155.4(b)(2) concerning customer permission for FCMs and IBs to take the opposite side of an order. The Commission adopted a similar rule amendment in November 2000,^[1] but withdrew it the following month upon passage of the Commodity Futures Modernization Act of 2000.^[2] Most of the rules adopted and withdrawn in 2000 were reproposed and re-adopted in 2001,^[3] but this one was not. Because Commission staff received an inquiry about this issue, the Commission reproposed the rule amendment and sought comments.

II. Rule Amendments

Three comments were received, from the National Futures Association (“NFA”), the Futures Industry Association (“FIA”) and an FCM, Goldman Sachs & Co. All comments supported adoption of the proposed amendment to Rule 1.55(d)(1). In addition, the three commenters were unanimous in their recommendation that the Commission adopt another rule amendment that clarifies, in Rule 1.55(f), that acknowledgment to consent for an FCM or IB to take the opposite side of an order is not required of institutional customers when they open an account.

The commenters requested that Rule 1.55(f) also be amended to add the consent required under Commission Rules 115.3(b)(2) and 155.4(b)(2) to the prescribed disclosures, consents and elections that institutional customers are not required to acknowledge in opening an account with an FCM. The Commission believes that such a further amendment is consistent with the proposal and with the general structure of Rule 1.55 and that it is appropriate to clarify Rule 1.55(f) as the commenters suggest. The Commission emphasizes the point by cross-referencing Rule 1.55 in Rules 1.55.3 and 155.4.^[4]

As the Commission emphasized in its proposal, the single signature acknowledgment format was first adopted in 1993 based on a rationale of customer sophistication. If, with the Commission's proposed rule amendment, non-institutional customers are now deemed sufficiently sophisticated to have their consents acknowledged with a single signature, it is certainly appropriate to assume that more sophisticated institutional customers understand that they are consenting to the trade practices described in Rule 155.3(b)(2) and 155.4(b)(2) without a separate acknowledgment when an account is opened.

Section 4b of the Act ^[5] nonetheless requires intermediaries to have the prior consent of the customer before knowingly taking, directly or indirectly, the opposite side of a customer's order. Thus, as one of the commenters pointed out, it is still the responsibility of the entity opening the account to ensure that prospective customers give “the consent required under this rule,” even when the customer is an institutional customer.^[6] The amendment of Rule 1.55(f) permits an entity to choose the most appropriate means to accomplish that objective. Finally, Rules 155.3(b)(2) and 155.4(b)(2) are amended to cross-reference Rule 1.55(d)(1).

III. Related Matters

A. Regulatory Flexibility Act

The Regulatory Flexibility Act (“RFA”), 5 U.S.C. 601-611, requires that agencies, in proposing rules, consider the impact of those rules on small business. The Commission has previously established certain definitions of “small entities” to be used by the Commission in evaluating the impact of its rules on such entities in accordance with the RFA.^[7] The Commission previously has determined that, based upon the fiduciary nature of the FCM/customer relationships, as well as the requirement that FCMs meet minimum financial requirements. FCMs should be excluded from the definition of small entities. With respect to IBs, the CFTC has stated that it is appropriate to evaluate within the context of a particular rule proposal whether some or all of the affected entities should be considered small entities and, if so, to analyze the economic impact on them of any rule.^[8] In the regard, the amendment to Rule 1.55(d)(1) adopted herein does not require any IB to change its current method of doing business, and in fact eases a regulatory burden by permitting a single signature of the customer to represent an additional consent required by Commission regulations. The amendments to Rules 1.55(f) and 155.3(b)(2) and 155.4(b)(2) clarify existing rules. No comments were received on this issue.

B. Paperwork Reduction Act

The Paperwork Reduction Act of 1995 ^[9] imposes certain requirements on federal agencies (including the Commission) in connection with their conducting or sponsoring any collection of information as defined by the Paperwork Reduction Act (“PRA”). The amendments to Rules 1.55(d) and 155(f) that are the subject of this rulemaking do not alter the paperwork burden associated with the OMB Collection of Information submission, OMB Control Number 3038-0022, Rules Pertaining to Contract Markets and Their Members, where the Commission most recently described the paperwork burden associated with the 2001 rulemaking amendments.^[10] Thus, there is no need for an additional submission pursuant to the PRA.

List of Subjects

17 CFR Part 1

• Brokers
• Commodity futures
• Consumer protection
• Disclosure
• Reporting and recordkeeping requirements

17 CFR Part 155

• Brokers
• Commodity futures
• Reporting and recordkeeping requirements

In consideration of the foregoing, and pursuant to the authority contained in the Commodity Exchange Act and, in particular, Sections 4b, 4c(b), and 8a(5) thereof, 7 U.S.C. 6b, 6c(b), and 12a(5) (2000), and pursuant to the authority contained in 5 U.S.C. 552 and 552b (2003), the Commission hereby amends Chapter I of Title 17 of the Code of Federal Regulations as follows:

PART 1—GENERAL REGULATIONS UNDER THE COMMODITY EXCHANGE ACT

1. The authority citation for part 1 continues to read as follows:

Authority: 7 U.S.C. 1a, 2, 4, 6, 6a, 6b, 6c, 6d, 6e, 6f, 6g, 6h, 6i, 6j, 6k, 6l, 6m, 6n, 6o, 6p, 7, 7a, 7b, 8, 9, 12, 12a, 12c, 13a, 13a-1, 16, 16a, 19, 21, 23, and 24, as amended by the Commodity Futures Modernization Act of 2000, appendix E of Pub. L. 106-554, 114 Stat. 2763 (2000).

2. Section 1.55 is amended by revising paragraphs (d)(1) and (f) to read as follows:

§ 1.55

Distribution of “Risk Disclosure Statement” by futures commission merchants and introducing brokers.

* * * * *

(d) * * *

(1) Prior to the opening of such account, the futures commission merchant or introducing broker obtains an acknowledgement from the customer, which may consist of a single signature at the end of the futures commission merchant's or introducing broker's customer account agreement, or on a separate page, of the disclosure statements, consents and elections specified in this section and § 1.33(g), and in §§ 33.7, § 155.3(b)(2), § 155.4(b)(2), and § 190.06 of this chapter, and which may include authorization for the transfer of funds from a segregated customer account to another account of such customer, as listed directly above the signature line, provided the customer has acknowledged by check or other indication next to a description of each specified disclosure statement, consent or election that the customer has received and understood such disclosure statement or made such consent or election; and

* * *

(f) A futures commission merchant or, in the case of an introduced account, an introducing broker, may open a commodity futures account for an “institutional customer” as defined in § 1.3(b) without furnishing such institutional customer the disclosure statements or obtaining the acknowledgments required under paragraph (a) of this section, §§ 1.33(g) and 1.65(a)(3), and §§ 30.6(a), 33.7(a), 155.3(b)(2), 155.4(b)(2) and 190.10(c) of this chapter.

* * * * *

PART 155—TRADING STANDARDS

3. The authority citation for part 155 continues to read as follows:

Authority: U.S.C. 6b, 6c, 6g, 6j and 12a, unless otherwise noted.

4. Section 155.3 is amended by revising paragraph (b)(2) as follows:

§ 155.3

Trading standards for futures commission merchants.

* * * * *

(b) * * *

(2)(i) Knowingly take, directly or indirectly, the other side of any order of another person revealed to the futures commission merchant or any of its affiliated persons by reason of their relationship to such other person, except with such other person's prior consent and in conformity with contract market rules approved by or certified to the Commission.

(ii) In the case of a customer who does not qualify as an “institutional customer” as defined in § 1.3(g) of this chapter, a futures commission merchant must obtain the customer's prior consent through a signed acknowledgment, which may be accomplished in accordance with § 1.55(d) of this chapter.

* * * * *

5. Section 155.4 is amended by revising paragraph (b)(2) as follows:

§ 155.4

Trading standards for introducing brokers.

* * * * *

(b) * * *

(2)(i) Knowingly take, directly or indirectly, the other side of any order of another person revealed to the introducing broker or any of its affiliated persons by reason of their relationship to such other person, except with such other persons's prior consent and in conformity with contract market rules approved by or certified to the Commission.

(ii) In the case of a customer who does not qualify as an “institutional customer” as defined in § 1.3(g) of this chapter, an introducing broker must obtain the customer's prior consent through a signed acknowledgment, which may be accomplished in accordance with § 1.55(d) of this chapter.

* * * * *

Dated: January 27, 2005.

By the Commission.

Jean A. Webb,

Secretary of the Commission.

Footnotes

1.  65 FR 77993 at 78013 (December 13, 2000).

2.  65 FR 82272 (December 28, 2000).

3.  66 FR 45221 at 45226 (August 28, 2001) (proposed rules) and 66 FR 53510 at 53513 (October 23, 2001) (final rules).

4.  The Commission took a similar approach when it amended Rule 1.55 as well as Rule 1.33 concerning electronic transmission of customer account statements. See 66 FR 53517 (Oct. 23, 2001).

5.  Commodity Exchange Act § 4b(a)(2)(iv) (“unlawful * * * to fill such order by offset against the order or orders of any other person, or willfully and knowingly and without the prior consent of such person to become the buyer in respect to any selling order of such person, or become the seller in respect to any buying order of such person”), 7 U.S.C. 4b(2)(C)(iv) (2003).

6.  Comment letter of Goldman Sachs & Co., December 9, 2004 at p. 2.

7.  47 FR 18618-18621 (April 30, 1982).

8.  Id.

9.  Pub. L. 104-13 (May 13, 1995).

10.  See 66 FR 45221, 45228 (August 28, 2001).