[Federal Register Volume 59, Number 93 (Monday, May 16, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-11380]
[[Page Unknown]]
[Federal Register: May 16, 1994]
VOL. 59, NO. 93
Monday, May 16, 1994
COMMODITY FUTURES TRADING COMMISSION
17 CFR Parts 1, 4, 30, 150
Proposed Amendments to Commodity Pool Operator and Commodity
Trading Advisor Disclosure Rules
AGENCY: Commodity Futures Trading Commission.
ACTION: Proposed rules.
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SUMMARY: The Commodity Futures Trading Commission (``Commission'' or
``CFTC'') is proposing substantial revisions to the disclosure
framework applicable to commodity pool operators (``CPOs'') and
commodity trading advisors (``CTAs''). The proposed amendments reflect
the Commission's experience in applying the disclosure requirements set
forth in part 4 of the Commission's rules and significant evolution in
the purposes, structure and activities of the managed funds
marketplace. These proposed modifications of the CPO and CTA disclosure
framework are designed to achieve greater simplicity, focus and clarity
in performance history presentations; streamlining of other required
disclosures; and a more concise and readable format for disclosure
documents.
DATES: Comments on the proposed rules must be received on or before
July 15, 1994.
ADDRESSES: Comments must be sent to Jean A. Webb, Secretary of the
Commission, Commodity Futures Trading Commission, 2033 K Street, NW,
Washington, DC 20581.
FOR FURTHER INFORMATION CONTACT: Susan C. Ervin, Deputy Director/Chief
Counsel, or France M.T. Maca, Division of Trading and Markets,
Commodity Futures Trading Commission, 2033 K Street NW., Washington, DC
20581. Telephone: (202) 254-8955.
SUPPLEMENTARY INFORMATION: Commission Rule 4.211 requires that
each CPO registered or required to be registered under the Commodity
Exchange Act (``Act'' or ``CEA''), 7 U.S.C. 1 et seq. (1988 & Supp.
1992), provide prospective participants with a disclosure document
containing the information specified in the rule on or before the date
it solicits, accepts or receives funds, securities or other property
from prospective participants for a pool it operates or intends to
operate. Each CTA who is registered or required to be registered is
also required, by Rule 4.31, to deliver a disclosure document prior to
or at the time of soliciting or entering into an agreement to direct or
guide the commodity interest account of a prospective client. These
requirements were first promulgated on January 8, 1979, when the
Commission published part 4 of its regulations relating to the
operations and activities of CPOs and CTAs.2
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\1\Commission rules referred to herein are found at 17 CFR Ch. I
(1993).
\2\44 FR 1918 (January 8, 1979).
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I. Summary of Proposed Rule Changes
Based upon more than fifteen years of experience with administering
the part 4 disclosure framework for CPOs and CTAs, the Commission has
undertaken a comprehensive review of the disclosure requirements for
CPOs and CTAs to identify areas in which the regulatory structure can
be streamlined or simplified, while continuing to provide appropriate
customer protection. Rules 4.7 and 4.8 were adopted in August 1992 as a
result of the first phase of this review.3 This proposal
represents the second phase of the Commission's review of part 4, which
will also include consideration of the appropriateness of a two-part
format for pool disclosure documents.4 The Commission is seeking
public comment on proposed revisions of Rules 4.21 and 4.31. The
amendments have three major purposes: (1) Simplification of past
performance disclosures; (2) reduction of required disclosures as to
matters of secondary relevance; and (3) clarification and modernization
of various requirements. In addition, Rules 4.21 and 4.31 would be
redrafted, reorganized and renumbered with a view towards greater
clarity, simplicity and congruence with contemporary managed funds
practices.
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\3\57 FR 34853 (August 7, 1992). Subject to certain conditions,
Rule 4.7(a) provides relief from the specific requirements of Rules
4.21 and 4.23 and from certain of the requirements of Rule 4.22 to
registered CPOs with respect to pools sold only to ``qualified
eligible participants'' and satisfying the other conditions set
forth in the rule. Rule 4.7(b) provides relief from the specific
requirements of Rules 4.31 and 4.32 to registered CTAs with respect
to the accounts of ``qualified eligible clients'' as defined in the
rule. Rule 4.8 permits the CPOs of certain privately offered pools
to solicit participants for those pools upon filing with the
Commission and delivering to prospective participants the disclosure
document required by Rule 4.21, eliminating the twenty-one day pre-
filing requirement of Rule 4.21(g) for such pools.
\4\If determined to be appropriate, such a document could
consist of: A summary disclosure document, provided to all
prospective pool participants, containing core information relevant
to a determination to participate in the pool; and a supplemental
document, which would be made available upon request, containing
additional and more detailed information of interest to some
investors.
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Proposed revisions to the disclosure requirements for CPO
disclosure documents include the following.
A. Performance Disclosures
Under the proposal, past performance disclosures would be
simplified and streamlined as follows.
1. All past performance presentations for pools would be reduced to
a summary format containing specified core information.
2. For pools which have been in operation for at least three years,
the only past performance record required generally would be that of
the pool offered.
3. For pools with less than a three-year history, only the
performance records of the pool offered, other pools operated by the
CPO, CTAs allocated at least twenty-five percent of the aggregate
initial futures margins and commodity option premiums for the pool
offered and investee pools allocated at least twenty-five percent of
the assets of the pool offered generally would be required. If the CPO
has less than a three-year history, the past performance records of the
CPO's principals would be required to be disclosed.
4. Certain performance data of secondary relevance to the pool
offering would be replaced by a statement indicating whether that
performance was ``adverse,'' i.e., the performance was one hundred
basis points lower than the relevant Treasury Bill rate or the pool had
to be terminated due to poor performance pursuant to a loss termination
provision.
B. Non-Performance Disclosures
Non-performance disclosures would be revised as follows.
1. Required disclosures concerning the litigation history of
futures commission merchants (``FCMs'') would be significantly reduced.
2. Disclosure of the business backgrounds of principals would be
limited to principals who participate in making trading or operational
decisions for the pool or CTA.
3. Requirements for disclosure of conflicts of interest would no
longer make specific reference to FCMs and introducing brokers
(``IBs''). However, a general requirement to disclose conflicts of
interest on the part of any persons providing services to the pool,
which would encompass FCMs and IBs as well as persons who may not be
Commission registrants, would be included.
4. The required description of each fee and expense of the pool
would be supplemented by a tabular presentation of fees and expenses
setting forth how the ``break-even point'' for the pool is calculated.
The break-even point is the per-unit profit that the pool must realize
during its first year for a participant to recoup his initial
investment in the pool.
C. Format Improvements to Enhance Readability
A number of revisions to the rules are being proposed to enhance
the accessibility and prominence of relevant disclosures. Disclosure
documents would be required to contain a table of contents. General
information concerning the pool, including the break-even point, would
be required to be set forth in the forepart of the document. The number
and content of various previously required bold-face ``boilerplate''
cautionary statements would be reduced and all information voluntarily
provided would be required to follow the relevant required disclosures.
D. Other Revisions
Changes are also proposed to generally facilitate pool offerings,
particularly with respect to areas of overlap or potential
inconsistency with Securities and Exchange Commission (``SEC'') rules.
Thus, under the revisions, CPOs may update pool disclosure documents
every nine months, consistent with SEC requirements, rather than every
six months, as under current CFTC rules. In addition, CPOs may provide
accredited investors with a notice of intended offering and term sheet,
prior to delivery of a disclosure document.
Similar changes are proposed to be made to the requirements
applicable to CTA disclosure documents.
The proposed changes are more specifically discussed in the
section-by-section analysis.
II. Background
In announcing the adoption of part 4 in 1979, the Commission stated
that Rule 4.21, the basic disclosure document requirement for CPOs, was
intended ``to protect pool participants--particularly those who are
unsophisticated in financial matters--by ensuring that they are
informed about the material facts regarding the pool before they commit
their funds.''5 Similarly, Rule 4.31 was premised, in part, upon
the view that ``a prospective [CTA] client or subscriber should be
aware of the advisor's commodity and general business experience if he
is to make an informed decision as to whether or not to avail himself
of the advisor's services.''6
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\5\44 FR 1918, 1920.
\6\42 FR 9278, 9279 (February 15, 1977).
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Section 4.21 requires the disclosure document for commodity pools
to contain various types of information concerning the pool; the pool's
CPO and CTA, and their principals; the FCM through which the pool's
trades will be executed and cleared; and the pool's IB, if applicable.
This information includes, among other things, the pool's and CPO's
form of organization (Rule 4.21(a)(1)(i)); the pool's investment
objectives (Rule 4.21(a)(1)(viii)); the business backgrounds of the CPO
and CTA and their principals (Rule 4.21(a)(2)); material
administrative, civil or criminal actions within the five years
preceding the date of the disclosure document against the CPO, CTA, FCM
and IB and their principals (Rule 4.21(a)(13)(i)); conflicts of
interest on the part of the CPO, CTA, FCM, IB and their principals with
respect to the pool (Rule 4.21(a)(3)(i)); the performance records of
the pool and its CTA (Rules 4.21 (a)(4) and (a)(5), respectively) and,
if the pool has traded commodity interests for less than twelve months,
the performance of each other pool operated by the CPO and by each of
its principals (Rule 4.21(a)(4)(i)(B)); a complete description of each
kind of expense that the pool has incurred in its preceding fiscal year
or is expected to incur in its current fiscal year (Rule 4.21(a)(7))
and of commissions or other fees that are paid or may be paid by the
pool, its CPO, CTA or their principals in connection with solicitations
for the pool (Rule 4.21(a)(14)); and risk disclosure and cautionary
statements (Rules 4.21(a)(17) and 4.21(a)(18), respectively).
The disclosure document for CTAs must contain, among other matters,
the name and business background of the CTA and each principal thereof
(Rules 4.21(a)(1) and 4.21(a)(2), respectively); a description of the
trading program (Rule 4.31(a)(1)(iii)); the types of commodity
interests the CTA intends to trade (Rule 4.31(a)(v)); the performance
record of the CTA and its principals (Rule 4.31(a)(3)); a description
of any conflict of interest regarding the trading program on the part
of the CTA, FCM, IB and their principals (Rule 4.31(a)(5)); material
actions against the foregoing persons (Rule 4.31(a)(7)); and risk
disclosure and cautionary statements (Rules 4.31(a)(8) and 4.31(a)(9),
respectively).
Since the adoption of Rules 4.21 and 4.31 in 1979, the number of
registered CPOs has more than doubled and the number of CTAs has
increased nearly threefold.7 Assets under the management of CPOs
have also grown dramatically8 and the range of available futures
and option contracts has increased substantially.9 In addition,
during the past decade, pool operations and investments have reflected
increased diversity and complexity. When Rule 4.21 came into effect,
most CPOs operated one or two pools, and pools usually had one CPO
which generally directed the commodity interest trading for the pool or
engaged the services of a CTA who invested pool assets directly in
commodity interest contracts. Increasingly, however, CPOs operate
multiple pools, and commodity pools' and CTAs' investments are more
diverse and complex.10 A single commodity pool may engage multiple
CTAs to provide advisory services for the pool and also invest in other
commodity pools (``investee pools'') or securities funds in order to
access the services of particular traders or advisors, to employ
multiple trading strategies or programs, or to diversify its
portfolio.11 ``Investee pools'' may also hold investments in other
funds, resulting in multi-tiered structures of commodity pools and
other investment vehicles. Because of the proliferation of trading
strategies and growing specialization of CTAs, an increasing number of
pools also retain ``trading managers'' to recommend or select CTAs for
the pool or to select funds for investment of the pool's assets. Many
CPOs and trading managers follow dynamic asset allocation strategies
whereby the performance of the pool's CTAs is continuously reviewed and
the selection of CTAs and allocation of assets among them are subject
to frequent modification. Other commodity pools are formed as vehicles
for collective access to particular CTAs whose services would not be
readily available on a managed account basis and who are expected to
provide advisory services to the pool throughout its existence.
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\7\In April 1979, 619 persons were registered as CPOs and 976
persons as CTAs. As of February 28, 1994 there were 1,265 registered
CPOs and 2,511 registered CTAs.
\8\Figures compiled by the National Futures Association indicate
that the assets of commodity pools (both public and private) have
more than doubled from 1988 to 1991, from approximately $8.6 billion
to approximately $19 billion. Managed Accounts Reports (``MAR'')
estimates public pool assets at $15 million in 1975, $250 million in
1980 and $435 million in 1983. These data reflect, in part, the
increased use of managed futures by collective investment vehicles
seeking to diversify their portfolios or manage the risks of
securities, fixed income instruments or other assets. Concomitantly,
institutional users such as state pension plans have increased their
participation in managed futures. See Peltz, The road to managed
futures--the institutional perspective, MAR Issue No. 181 (March
1994). In addition, many primarily securities vehicles invest a
small portion of their assets in commodity interests pursuant to
Rule 4.12(b), which went into effect on November 2, 1987. See note
13 infra.
\9\Commodity futures and option contracts designated by the CFTC
numbered 90 in 1978 and 419 as of April 18, 1994.
\1\0For example, in addition to investing directly and
indirectly in commodity interest contracts traded on U.S. contract
markets, pools and managed accounts may engage in a variety of other
transactions, such as swaps, Separate Trading of Registered Interest
and Principal of Securities (also known as STRIPS), and repurchase
and reverse repurchase agreements.
\1\1For its Survey of Commodity Pool Operators, (the ``Pool
Survey'') dated January 1991, the Commission's Division of Economic
Analysis surveyed sixty-five large CPOs (defined as those with over
$10 million in net assets under management) representing about 94
percent of the total $7.8 billion in net assets reported by the
approximately 1,200 CPOs registered as of September 30, 1988. The
Pool Survey indicated that, on average, each large CPO operated
about four pools and employed about two CTAs per pool. At the upper
end of the range, the Pool Survey showed two CPOs accounting for 20
or more pools each and three pools employing the services of as many
as 14 CTAs each. The National Futures Association reported that, as
of October 1993, for 300 pools the CPO also served as CTA, 376 pools
had one CTA and 216 pools had more than one CTA.
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In implementing its statutory mandate to regulate the activities of
CPOs and CTAs, the Commission has endeavored to refine its rules as
appropriate to respond to changing market conditions and to simplify
and streamline the disclosure process in a manner consistent with
customer protection. For example, in 1985, the Commission adopted Rule
4.5, which, as last amended,12 provides an exclusion from the
definition of the term ``commodity pool operator'' for the operators of
specified types of collective investment vehicles operating pursuant to
other regulatory frameworks, i.e., certain pension plans, registered
investment companies, bank or trust company collective funds and
insurance company separate accounts, whose use of futures and commodity
option transactions is limited to hedging and to non-hedging
transactions for which initial margin deposits and option premiums do
not exceed five percent of the liquidation value of the entity's
portfolio.\13\
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\1\258 FR 43791 (August 18, 1993), effective September 17, 1993.
\1\3Rule 4.12(b) allows the use of a simplified disclosure
document that does not contain, among other things, the past
performance records, risk disclosure and cautionary statements
otherwise required by Rule 4.21. Thus, a pool's securities offering
memorandum should require little supplementation to meet the
requirements for a pool disclosure document under Rule 4.12(b).
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In 1987, the Commission adopted Rule 4.12(b), which provides relief
from certain requirements of Rules 4.21, 4.22 and 4.23 with respect to
pools that commit no more than ten percent of the fair market value of
their assets to establish commodity interest positions and trade such
commodity interests in a manner solely incidental to their securities
trading. Also in 1987, the Commission adopted Rule 4.14(a)(8), which
provides registration relief to investment advisers registered as such
with the SEC, who provide commodity interest trading advice to trading
vehicles that are excluded from the definition of the term ``pool''
under Rule 4.5 or are qualifying entities for which a notice of
eligibility has been filed under Rule 4.5, provided that the investment
adviser's commodity interest trading advice is solely incidental to the
adviser's business of providing securities advice and consistent with
Rule 4.5, and that the investment adviser does not otherwise hold
itself out as a CTA.
In August 1992, the Commission adopted Rule 4.7, which provides
relief from certain part 4 requirements to CPOs offering pool
participations and to CTAs offering managed accounts to certain highly
accredited investors.14 Rule 4.7 also facilitates multi-
jurisdictional offerings by making relief available for private
offerings exempt from registration pursuant to section 4(2) of the
Securities Act of 1933 (``Securities Act'') and pursuant to the SEC's
Regulation S15 and by including certain foreign persons as
eligible participants in pools qualifying for Rule 4.7
exemption.16
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\1\4See note 3 supra.
\1\5Regulation S generally provides that the registration
requirements of the Securities Act do not apply to offers and sales
of securities that occur outside the United States and provides two
safe harbors from those requirements for specified offerings where
no ``directed selling efforts'' are made in the United States.
``Directed selling efforts'' are activities undertaken for the
purpose of, or that could reasonably be expected to result in,
conditioning of the market in the United States for the securities
being offered. See 55 FR 18306 at 18307 (May 2, 1990).
\1\6As of April 5, 1994, relief has been claimed under Rule
4.7(a) for 360 pools, and 150 CTAs have claimed relief under Rule
4.7(b).
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In addition, the Division of Trading and Markets (``Division'') has
issued relief on a case-by-case basis to facilitate application of the
disclosure requirements in the context of new market conditions not
contemplated by the existing regulatory framework, such as multiple CTA
and fund-of-funds structures, with the objective of fostering clear and
succinct disclosure of material information, especially concerning fees
and the manner in which proceeds of the offering will be used. In many
cases, strict application of existing disclosure requirements to pools
whose CPOs have voluminous performance histories or which retain
multiple CTAs or invest in multiple investee funds may result in such
extensive track record disclosure that past performance records
generally may be given undue emphasis and the most germane data given
insufficient prominence. These effects have been mitigated in
appropriate circumstances through grants of exemptive or no-action
relief. For example, in Interpretative Letter No. 92-12,17 the
Division granted relief from required disclosures (including disclosure
of past performance records) concerning CTAs and investee pools
allocated less than ten percent of the assets of the investor pool. The
CPO had an operating history of more than three years and changed the
pools' CTAs frequently based on its continuous analysis of over 500
CTAs. This relief has since been made available to other CPOs in
similar circumstances.
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\1\7(1990-1992 Transfer Binder), Comm. Fut. L. Rep. (CCH)
25,343 (July 28, 1992).
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In Interpretative Letter 94-10, the Division granted relief
permitting a CPO to use a summary format containing specified core
information to present, in the disclosure document of a single-advisor
pool, its past performance with respect to other pools operated by the
CPO, none of which was advised by the same CTA as the single-advisor
pool. The CTA advising the single-advisor pool had a ten-year track
record that would be fully disclosed in the disclosure document of the
single-advisor pool and the full performance record of the CPO's other
pools would be available upon request.18
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\1\8[Current Transfer Binder], Comm. Fut. L. Rep. (CCH) 25,991
(December 16, 1993). The Division also allowed the use of a capsule
performance disclosure format in Interpretative Letter 94-12 under
similar circumstances. [Current Transfer Binder], Comm. Fut. L. Rep.
(CCH) 25,993 (December 27, 1993). In Interpretative Letter No. 93-
107 the Division granted relief permitting a CPO to omit disclosure
of the past performance of certain single-advisor pools in the CPO's
disclosure documents for two multi-advisor pools, provided that the
CPO gave a brief description of the single-advisor pools and made
their performance records available upon request. This relief was
based upon representations that the CPO, which played an active role
as an administrator and asset allocator for the multi-advisor pools,
performed no asset allocation functions for the single-advisor pools
and that the single-advisor pools served as vehicles to provide
access to commodity pools advised by certain experienced CTAs whose
minimum investment levels for managed accounts would otherwise have
been prohibitive for individual investors. The CPO's track record as
an asset allocator would be more significant in the context of
multi-advisor funds than its track record in the context of single
advisor funds, where the skill of the individual CTA would be of
greater interest to prospective participants. [Current Transfer
Binder], Comm. Fut. L. Rep. (CCH) 25,899 (October 26, 1993).
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In Interpretative Letter No. 92-9,19 the Division permitted a
CPO to use a two-part disclosure document for a commodity pool
provided, among other things, that both parts of the disclosure
document were delivered at the same time and that the first part of the
document contained all of the disclosures required by Rule 4.21 except
for the disclosures required by Rule 4.21(a)(5) with respect to the
performance records of the pool's CTAs, which were required to be
included in the second part. By Advisory 27-92 (June 3, 1992), the
Division gave notice that it had no objection to the use of a two-part
disclosure document of the nature described above by other CPOs,
subject to the conditions set forth in the foregoing letter.
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\1\9(1990-1992 Transfer Binder), Comm. Fut. L. Rep. (CCH)
25,300 (June 1, 1992).
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In reviewing CPO disclosure documents, Division staff has addressed
fund-of-funds structures by requiring that certain disclosures be made
with respect to investee pools but limiting these disclosures with
respect to investee pools allocated less than twenty-five percent of
the assets of the pool offered.20 The Division has also issued
interpretative statements and advisories giving guidance with respect
to the presentation of past performance in disclosure documents.21
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\2\0Staff comment letters have stated that pool disclosure
documents should provide all information required by Rule 4.21 for
each investee pool, ``generally at the same level of detail as
though the investee pool were providing its own separate disclosure
document,'' but that reduced disclosures were appropriate where less
than twenty-five percent of the assets of the pool offered is
invested in the investee pool. Moreover, the staff indicated that it
is always willing to address specific requests for relief and has
done so in appropriate circumstances.
\2\1See, e.g., CFTC Advisory 87-2, (1986-1987 Transfer Binder)
Comm. Fut. L. Rep. (CCH) 23,624 (June 2, 1987), defining the term
``beginning net asset value'' for purposes of computing rate of
return; CFTC Advisory dated February 27, 1991 (1990-1992 Transfer
Binder) Comm. Fut. L. Rep. (CCH) 25,005, permitting CPOs and CTAs
to use alternative rate of return computation methods to more
accurately reflect the return on funds available for trading during
the period; and CFTC Advisory 93-13, (Current Transfer Binder) Comm.
Fut. L. Rep. (CCH) 25,554 (February 12, 1993), permitting the use
of an alternative method for computing CTAs' rates of return. The
use of this method may result in fewer and simplified performance
tables.
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In developing this proposal, the Commission has taken into account
its experience in administering the current regulatory framework,
reviewing disclosure documents and responding to requests for relief
from registrants. The Commission has also taken into consideration the
evolution of the industry, the views of the public and of market
participants and the disclosure implications of recently developed
trading structures.
The Commission also has had the benefit of the work of a Special
Committee for the Review of CPO/CTA Disclosure Issues established by
the National Futures Association (``NFA'')22 to review and make
recommendations concerning CPO and CTA disclosure documents. The
Special Committee's recommendations were presented to NFA's Board of
Directors in February 1994. On March 15, 1994, the NFA submitted to the
Commission proposed amendments to, and interpretations of, its
Compliance Rules which were based upon the Special Committee's
recommendations. NFA's rule submission consists of several parts.
Proposed revisions of NFA Compliance Rule 2-13(a) would require CPOs to
comply, not only with specified Commission rules applicable to CPOs'
and CTAs' activities and disclosures, but also with interpretations of
those rules issued by NFA's Board of Directors and approved by the
Commission. Separately, new paragraph (b) would be added to Compliance
Rule 2-13 to require CPO disclosure documents to include a ``break-
even'' analysis, i.e., a computation of the trading profit that a pool
must realize in its first year for a participant to recoup its initial
investment, presented in the manner prescribed by the NFA's Board of
Directors, including a tabular presentation of fees and expenses. NFA
is also proposing interpretations of proposed Compliance Rule 2-13
relating to disclosure of past performance information, the computation
and presentation of the break-even analysis, the use of pro forma and
extracted results in past performance presentations and other topics
addressed by this proposal, including the disclosure of business
backgrounds of CPO and CTA principals, material litigation against FCMs
and other past performance issues. In addition, NFA is proposing to
replace paragraph (b)(4) of NFA Rule 2-29 with a new, more detailed,
paragraph (c) concerning the use of hypothetical trading results.
References to the NFA proposal are made in appropriate sections of this
release.23 Certain portions of that proposal are being published
for comment contemporaneously with this release. The NFA submission is
available from the Commission's Office of the Secretariat.
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\2\2NFA is presently the only futures association registered
with the Commission pursuant to section 17 of the Act. It has
responsibilities with respect to, among others things, oversight of
sales practices, including the use of promotional material.
\2\3The NFA submission also includes proposed new Compliance
Rule 2-34 which would govern the use of non-fully funded accounts.
This part of NFA's submission has been remitted by the Commission to
NFA for further explanation and supporting material.
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The Commission is exploring possible mechanisms for addressing CPO
and CTA disclosure issues with the benefit of industry and other
external input on an ongoing basis.
III. Section-by-Section Analysis
Current Rule 4.21 would be reorganized with a view towards
simplification of presentation. Rule 4.21 would continue to require
CPOs to deliver a disclosure document. New Rule 4.24 sets forth general
disclosure requirements, i.e., requirements applicable to disclosure of
all matters other than past performance. Past performance disclosure
requirements would be codified in new Rule 4.25. New Rule 4.26 would
contain requirements with respect to the use, amendment and filing of
the disclosure document.24
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\2\4The disclosure requirements for CTAs would be
correspondingly reorganized and set forth in Rules 4.31, 4.33, 4.34
and 4.35. Many of the proposed changes for pool disclosure documents
are also proposed for CTA documents. Rather than repeating the
discussion of these changes, the text or footnotes thereto indicate
where amendments similar to those discussed for pool disclosure
documents are also proposed for CTA disclosure documents.
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A. Section 4.25--Performance Disclosures
Simplification of past performance disclosure requirements has been
a primary objective of this rulemaking. The proposed revisions of the
past performance disclosure requirements are predicated upon the view
that past performance is not predictive of future performance results
and that inclusion of multiple performance records in disclosure
documents may tend to give undue importance to past performance data.
Nonetheless, the Commission believes that past performance disclosure
may serve to reveal negative performance results and the volatility of
pool returns. Consequently, the Commission is proposing to
substantially simplify past performance requirements with the objective
of eliminating required disclosure of past performance that is of
secondary relevance to the pool offered.
The proposed rules are designed to foster clarity and simplicity.
This objective would be achieved in part by substituting a summary of
core performance data for the multicolumnar presentations called for
under current rules. This new ``capsule'' format, which has recently
been used by some CPOs pursuant to exemptive relief issued by the
Division of Trading and Markets on a case-by-case basis,25
provides a simple, readable and succinct overview of pool performance
and substantially reduces the overall quantity of performance data
required to be presented without sacrificing the elements important to
customers.
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\2\5The proposed summary format differs in minor respects from
that used by those CPOs.
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The past performance disclosure requirements have also been
comprehensively reviewed and revised with a view towards eliminating or
reducing past performance disclosures of secondary importance. As a
result, the primary focus of past performance disclosure would be the
performance of the pool offered and for most pools with less than a
three year operating history, upon pools of a similar nature. Only the
past performance records of CTAs with responsibility for managing
substantial amounts of a pool's futures or commodity option trading
would be required. The performance of CTAs managing lesser amounts of
the pool's futures trading and other performance data of secondary
relevance to the offering would generally not be required except to the
extent that such performance was below a specified benchmark rate of
return or resulted in significant losses. The performance of pools
dissimilar to the pool offered would be permitted to be shown in
composites, subject to limitations on the types of pools that may be
included in a composite.
The proposed rules also take into account structures in which a
trading manager, rather than the pool's CPO, allocates pool assets, and
fund-of-funds structures. In addition, because, under the proposal, the
volume of required performance disclosures would be considerably
reduced, the time period for these disclosures would be increased from
three to five years to provide pool participants with a better
chronological perspective of the track records presented in the
disclosure document.\26\
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\26\This recommendation is consistent with a similar
recommendation by the NFA Special Committee.
---------------------------------------------------------------------------
Thus, the proposed past performance requirements require
presentation of the past performance of the pool itself. For most pools
with at least a three-year track record this would be the only past
performance required to be disclosed. Proposed Rule 4.25(c) would
require the following additional disclosures with respect to pools with
less than a three-year history. If the pool has not commenced trading,
a short statement to that effect would be required to be prominently
disclosed. The performance of the CPO (or of the pool's trading
manager, if applicable) would be required to be disclosed and if the
CPO (trading manager) had less than a three-year trading history, the
performance of its trading principals also would be required.\27\ If
applicable, a legend would be required to disclose the fact that
neither the CPO (or trading manager), nor its principals has any
commodity interest trading experience.
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\27\This performance would be presented in a capsule format and
the performance of pools of a different class than the pool offered
could be presented in a composite format. See discussion of proposed
Rule 4.25(a)(3)(ii) relating to composites, infra.
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With respect to CTAs and investee pools, proposed Rule 4.25(c)(3)
would provide for disclosure of the performance of ``major'' CTAs and
investee pools, i.e., CTAs allocated at least twenty-five percent of
the pool's aggregate initial futures margins and commodity option
premiums and investee pools allocated at least twenty-five percent of
the pool's assets, to be set forth in the specified capsule format. The
CPO would only be required to indicate any ``adverse performance'' as
defined in proposed Rule 4.25(a)(8) on the part of CTAs allocated less
than twenty-five but at least ten percent of the pool's futures margins
and commodity option premiums and investee pools allocated less than
twenty-five percent but at least ten percent of the assets of the pool
offered. No performance disclosure would be required for CTAs allocated
less than ten percent of the pool's futures margins and commodity
option premiums or investee pools allocated less than ten percent of
the pool's assets. If a major CTA or investee pool had no experience in
trading commodity interests, a prominent legend would be required to so
indicate. The legend would also indicate the percentage of futures
margins and option premiums allocated to the particular CTA or pool
assets allocated to the investee pool.
Past performance disclosure requirements would be codified in Rule
4.25, which would contain three sections. Paragraph (a) would set forth
general principles applicable to pool performance disclosure; paragraph
(b) would set forth the requirements applicable to pools with three or
more years history; and paragraph (c) would address other pools.\28\
The proposed changes are more fully described below.
---------------------------------------------------------------------------
\28\Rule 4.34, which sets forth performance disclosure
requirements for CTA disclosure documents, would include paragraph
(a), setting forth general principles applicable to CTA performance
disclosures, and paragraph (b) setting forth specific requirements.
---------------------------------------------------------------------------
1. Capsule Performance Presentation
Rule 4.21(a)(4) currently requires performance to be disclosed in
tables showing at least quarterly the beginning and ending net asset
values for the period, all additions, withdrawals and redemptions,
whether voluntary or involuntary, the net performance for the period,
net of additions, withdrawals and redemptions, and the rate of return
for the period. These requirements have been applied in practice such
that multiple pages of small-type numerical tables, frequently
including performance data not required by Commission rules, are
presented, often mixing without differentiation the performance of
trading vehicles similar to the pool offered and of vehicles different
in material respects. Such performance presentations are voluminous and
may give equal weight to relevant data and to data of secondary or
marginal pertinence.
The Commission is proposing a new summary format for presentation
of all required past performance history.\29\ This format is intended
to capture the most significant information concerning a pool's history
in a reader-friendly, largely nontabular form, which would generally
permit multiple performance track records to be provided on a single
page. The proposed new format, which is set forth in Rule 4.25(a)(1)(i)
for pools and Rule 4.25(a)(1)(ii) for accounts, calls for core
information intended to convey relevant data in a condensed format. The
capsule format for pools would set forth the date when the pool
commenced trading, the aggregate gross capital subscriptions for the
pool, and the pool's current net asset value. The ``largest monthly
draw-down'' and ``worst continuous peak-to-valley draw-down'' are
intended to show that material changes in rates of return may occur.
Rates of return would also be included, on a monthly basis for the pool
offered, and on an annual basis for other pools.
---------------------------------------------------------------------------
\29\The only exception to the summary format presentation is
that a CTA disclosure document would be required to present the
performance of the program offered in the full format currently
required by current Rule 4.31.
---------------------------------------------------------------------------
The ``largest monthly drawn-down'' and the ``worst continuous peak-
to-valley draw-down'' would demonstrate the significant one-month and
sustained declines to which commodity pool returns may be subject. Both
draw-down figures would be expressed as a percentage of the pool's net
asset value. The largest monthly draw-down would indicate the largest
net asset loss experienced by the pool in any calendar month and the
month and year in which it occurred. The peak-to-valley draw-down would
indicate the largest calendar month-to-calendar month continuous net
asset loss experienced by the pool during any period and the months and
year in which it occurred. Dating the monthly and peak-to-valley draw-
downs would permit participants to assess whether the losses were
connected to market conditions by comparing the draw-downs of several
pools. As explained in the rule, a peak-to-valley draw-down of 4 to 8-
91/25% would indicate that the peak-to-valley lasted from April to
August of 1991 and resulted in a twenty-five percent draw-down of the
pool's net asset value.
The rate of return would be presented for each month for the pool
offered and for each year for other pools. It would be computed on a
monthly compounded basis in order that the rate of return for a given
month will take into account the prior months' trading profits. Annual
rates of return computed on a monthly compounded basis assume
reinvestment of accrued profits and therefore the investment base on
which rates of return are calculated is effectively adjusted by these
amounts, presenting a more accurate picture of actual returns realized
on an investment. Information currently required by Rule 4.21(a)(4)
concerning additions, withdrawals and redemptions, the beginning and
ending net asset values and the number of units outstanding at the end
of each period at least for each quarter, would not be required.
The proposed capsule format for CTA accounts would contain similar
core information, i.e., the name of the CTA or other person trading the
account and the name of the trading program; the date when the CTA
began trading client funds and the date of inception of the program
being disclosed; the number of accounts in the program; the total
assets under the management of the CTA and in the trading program; the
largest monthly and worst continuous peak-to-valley draw-downs for the
program; and the annual and year-to-date rates of return. Registrants
who compute rates of return for CTA programs on the basis permitted by
Advisory 93-13 would continue to be required to state the actual and
nominal account sizes, as required therein.\30\
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\30\But see note 23.
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The summary format is designed for presentation purposes only. CPOs
and CTAs must continue to compute pool performance on the basis set
forth in current Rule 4.21(a)(4)(ii) (proposed to be renumbered as Rule
4.25(a)(6)), as interpreted by the Commission and to maintain records
substantiating such computations in accordance with Rule 1.31.\31\
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\31\Among other things, Rule 1.31 requires all books and records
to be kept for a period of five years and available for inspection
by any representative of the Commission or the U.S. Department of
Justice.
---------------------------------------------------------------------------
An example of capsule past performance presentation follows. This
table sets forth on a single page capsule past performance for eight
pools.
Sample.--Capsule Performance of All Pools Operated by X
[As of March 2, 1994]
--------------------------------------------------------------------------------------------------------------------------------------------------------
Current Rate of return
Aggregate total Worst monthly Worst continuous ---------------------------------------------
Name of pool Type of Start date subscription NAV ($ percent draw-down peak-to-valley Year-to-
pool ($ x 1,000) x draw-down 1989 1990 1991 1992 1993 date
1,000) (percent)
--------------------------------------------------------------------------------------------------------------------------------------------------------
A; B............... 2, 3, 6 8/93; 10/89 9,101 20,701 *(1.09%) 12/93 *(1.09%) 10-12/93 6.8 8.9 9.6 11.2 12.6 0.51
C.................. 2, 4, 6 4/86 2,104 3,313 (11.70%) 4/90 (20.47%) 1-4/90 4.2 9.8 6.5 9.3 5.7 (9.08)
D.................. 2, 3, 5 8/87 3,964 5,144 (10.13%) 11/91 (16.11%) 10-11/91 9.6 9.5 2.5 5.8 8.6 (0.28)
E.................. 1, 3, 6 6/87 534 292 (9.86%) 9/93 (21.14%) 9-11/93 3.4 7.8 8.2 7.6 (5.2) (2.98)
F.................. 1, 4, 6 8/86 617 730 (11.73%) 7/93 (19.61%) 4-8/91 11.17 6.2 3.4 10.6 6.8 6.82
G.................. 1, 4, 5 1/90 931 379 (16.01%) 6/92 (40.81%) 5-8/92 (2.3) 4.3 6.2 (8.2) 13.9 (17.26)
H.................. 1, 3, 6 9/91 278 N/A (12.20%) 6/93 (28.41%) 1-6/89 (7.8) 6.3 2.3 (0.7) 8.1 N/A
--------------------------------------------------------------------------------------------------------------------------------------------------------
*Worst draw-down for any of the pools included in the composite.
Key to type of pool: 1--Private; 2--Public; 3--Multi-advisor; 4--Non-multi-advisor; 5--Limited risk; 6--Non-limited risk.
2. Pools With Three or More Years Operating History
Current Rule 4.21(a)(4) requires disclosure of the performance of
the pool offered and of its CTAs and their principals for all pools. If
the pool offered has less than a twelve-month track record, the
performance of the CPO and of each of its principals must also be
disclosed. Under the proposed rules, past performance disclosure
requirements would differ based on whether the pool had a three-year,
rather than twelve-month, track record. Generally, where a pool has at
least a three-year track record, the only performance required to be
disclosed would be that of the pool offered.
The Commission believes that, generally, where a pool has an
extensive operational history, presentation of the pool's own past
performance record should fulfill the objectives of past performance
disclosure. If, however, the pool's historical track record occurred
under materially different conditions, the track record of the pool
alone may not be sufficient. For example, if the pool was essentially a
proprietary trading vehicle investing a relatively small amount of
funds contributed by third party sources, the track record generated
may have little or no relevance to a publicly offered pool. To assure
that a pool's three-year history was not acquired under circumstances
in which the pool was essentially a proprietary trading vehicle,
proposed Rule 4.25(b) would provide for past performance disclosure to
be limited to that of the pool offered for pools that have traded
commodity futures and option contracts for at least three years with no
fewer than fifteen participants who are unaffiliated with the pool's
CPO and in which no more than ten percent of the assets were
contributed by the CPO. The pool's performance would be required to be
disclosed for five full calendar years and year-to-date (or, if the
pool had less than a five-year history, for the pool's entire operating
history), in the specified capsule format with monthly rates of return.
The CPO would be free to include additional performance records in
compliance with the provision relating to voluntary information.
The Commission requests comment as to whether the performance
record of a pool with a three-year operating history is generally
sufficient without supplementary performance data concerning the pool's
CTAs or other pools operated by the CPO. The Commission also requests
comment as to whether the offered pool's operating history should be
considered for purposes of the three-year minimum if such history was
acquired when the pool differed in some material respect from the pool
as offered, for example, in cases in which the pool's CTA, types of
interests traded or the trading program have been significantly
modified or the pool was initially privately offered but is now offered
to the public.
3. Pools With Less Than Three Years History
As noted above, current Rule 4.21(a)(4) requires a pool disclosure
document to disclose the performance of the pool offered, of each of
the pool's CTAs and of each principal of the CTAs, and, if the pool
offered has traded commodity interests for less than twelve months, the
performance of the CPO and each of its principals.
As discussed in the preceding section, the Commission is proposing
to limit required performance disclosures to the performance of the
pool offered if the pool has at least a three-year performance history.
With respect to pools that have less than a three-year history,
proposed Rule 4.25(c) would require presentation of the performance
records of the pool offered, the CPO (or trading manager), the CPO's
(or trading manager's) trading principals if the CPO (or trading
manager) has less than a three-year history, and the performance of
each ``major'' CTA and investee pool, i.e., CTAs allocated at least
twenty-five percent of the pool's futures margins and commodity option
premiums and investee pools allocated at least twenty-five percent of
the assets of the pool offered.32 For CTAs allocated less than
twenty-five percent of the pool's futures margins and commodity option
premiums and investee pools allocated less than twenty-five percent of
the pool's assets, the sole requirement would be to indicate any
``adverse'' performance as defined in the rule. No disclosure would be
required for CTAs allocated less than ten percent of the pool's futures
margins and option premiums or investee pools allocated less than ten
percent of the pool's assets.
---------------------------------------------------------------------------
\3\2The lack of prior trading history of the specified persons
would be indicated by legends set forth in the rule.
---------------------------------------------------------------------------
The proposed rules would require that the performance history for
the pool offered be presented before any other performance history in
the disclosure document. The performance of pools similar to the pool
offered would be presented after that of the pool offered, on a pool-
by-pool basis.
The performance disclosure requirement of current Rule 4.21(a)(4)
focuses on the past performance of the pool offered, its CTAs,
principals of the CTAs and, if the pool has less than a year history,
the CPO and each of its principals. As noted above, these requirements
would be largely eliminated for pools with at least a three-year
operating history. For pools with a shorter history, additional past
performance records would be required to be disclosed. These
requirements were devised to focus upon the performance of pools
similar to the pool offered and of persons responsible for management
of a significant portion of the offered pool's assets. Further, to the
extent that performance of principals is required, unlike the current
rule which requires disclosure of the performance of all principals,
the proposed rule would require disclosure of the past performance of
``trading principals'' only. A ``trading principal'' would be defined
in proposed Rule 4.10(m) to mean a principal of a CPO or CTA who
participates in making commodity interest trading decisions for a pool
or client or who supervises, or has authority to allocate pool assets
to, persons so engaged.
The proposed rules also would take into account arrangements in
which pools use trading managers to direct their trading.33 The
term ``trading manager'' is defined in proposed Rule 4.10(j) as any
person, other than the pool's CPO, with authority to allocate pool
assets to CTAs or investee pools.
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\3\3Trading managers are CTAs and are required to be registered
as such.
---------------------------------------------------------------------------
As noted above, the practice of retaining trading managers to
select and monitor the performance of CTAs and investee pools to which
pool assets will be committed has become commonplace. CPOs seek to
maximize pool returns by allocating pool assets based on analysis of
the returns achieved by CTAs retained for the pool and investee pools
in which the pool has invested as compared to those of other CTAs and
investee pools, and in response to changing market conditions. CPOs
frequently rely on trading managers to continuously review the
performance of CTAs and investee pools and allocate and reallocate pool
funds. Because the trading manager, rather than the CPO, conducts the
asset allocation activities for the pool, the Commission believes that
the principal focus of the performance disclosure for a pool in which a
trading manager is responsible for allocating the assets should be on
the trading manager, rather than the CPO. Thus, when a pool has a
trading manager, the trading manager's performance would replace that
of the CPO.
With respect to CTAs, the proposed rules would require disclosure
of the past performance of CTAs only where they manage twenty-five
percent or more of the pool's futures and commodity option trading and
thus would constitute ``major CTAs,'' as defined in proposed Rule
4.10(k). The proposed rules also would require disclosure of past
performance of investee pools constituting ``major investee pools, that
is investee pools allocated twenty-five percent or more of the pool's
assets. The term ``major CTA'' would be defined in Rule 4.10(k) to mean
a CTA allocated or intended to be allocated twenty-five percent or more
of the pool's initial margins for futures contracts and premiums for
commodity options. Proposed Rule 4.10(l) would define ``major investee
pool'' as an investee pool allocated or intended to be allocated at
least twenty-five percent of the assets of a pool. These definitions
are intended to include CTAs or investee pools to whom the CPO of a
pool that has not commenced trading intends to make allocations at or
above the specified thresholds. Similarly, CTAs and investee pools to
whom the CPO of an operating pool intends to reallocate assets such
that the allocations will total twenty-five percent or more under the
margin or total asset standards also would be included.
To further reduce the volume of performance data contained in the
disclosure document, the proposed rules would eliminate the requirement
to present performance data with respect to CTAs allocated less than
twenty-five percent of the pool's initial margins and commodity option
premiums and investee pools allocated less than twenty-five percent of
the pool's assets and require only that ``adverse'' performance be
disclosed as to CTAs allocated ten percent or more of the pool's
initial futures margins and commodity option premiums and investee
pools allocated ten percent or more of the pool's assets. ``Adverse
performance'' would be defined in proposed Rule 4.25(a)(8) as an annual
rate of return of one hundred basis points less than the ninety-day
Treasury Bill rate on December 31 of the calendar year in which the
performance occurred or the termination of any pool pursuant to a loss
termination provision. To disclose adverse performance, the CPO would
indicate the year in which the performance occurred, the rate of return
for that year, and the name of the CPO, CTA or investee pool
responsible for the performance. An indication of adverse performance
would be required to be given for the pool's CPO (where the pool had a
trading manager whose performance was disclosed in lieu of that of the
CPO), any trading principal of the CPO or trading manager whose
performance was not otherwise disclosed, any CTA, other than a major
CTA, allocated at least ten percent of the pool's initial futures
margins and commodity option premiums and any investee pool, other than
a major investee pool, allocated at least ten percent of the assets of
the pool offered and the trading principals of major CTAs and the CPOs
of major investee pools that have no prior operating history. Proposed
Rule 4.25(c)(3)(iii) would permit CPOs to provide capsule performance
in lieu of giving an indication of adverse performance.
Comment is requested concerning the proposed treatment of CTA and
investee pool performance, including the definitions of major CTA and
major investee pools. In particular, commenters may wish to address
whether use of a twenty-five percent of futures margin or commodity
premium benchmark as compared to twenty-five percent of total assets
adequately reflects the relative risks of direct futures trading as
compared to trading through vehicles which limit the risk of loss to
the initial investment. Comment also is requested as to the definition
of adverse performance, in particular, as to whether any additional
benchmarks for identifying whether past performance is sufficiently
``adverse'' to warrant disclosure would be appropriate. For example,
should the adverse performance definition be revised to include a one-
month draw-down exceeding a specified percentage, e.g., twenty-five
percent, of account equity traded pursuant to the trading program under
which the CTA will trade for the offered pool.
4. Past Performance Disclosure in CTA Disclosure Documents
CTA disclosure documents would be required to include the past
performance of the CTA and its trading principals. The past performance
of the program offered would be required to be disclosed in the full
format currently required. For other programs, the CTA would be
required to use the capsule format used by CPOs to present CTA past
performance in pool disclosure documents.
5. Updating Past Performance Records
Concurrently, Rule 4.22(a) is proposed to be revised by adding
paragraph (a)(4) to require periodic account statements to include the
names of all of the pool's CTAs and investee pools regardless of the
amount of pool assets allocated to them. In addition, to provide a
ready means of presenting the performance of newly added major CTAs and
investee pools, account statements would be required to include the
past performance of all CTAs and investee pools that are major CTAs and
major investee pools as of the date of the statements and whose
performance was not previously disclosed. Use of account statements to
update major CTAs' and investee pools' performance records would
provide a convenient means for CPOs to amend pool performance
disclosures. In the event that the pool acquired a new major CTA or
investee pool whose past performance had not previously been disclosed,
the CPO would be required to notify pool participants of such event and
provide the relevant performance records as required by proposed Rule
4.26(c) (current Rule 4.21(b)),34 within twenty-one calendar days
after the CPO knows or should know of this occurrence, whether by way
of the account statement (if this would provide timely notice under the
twenty-one day requirement) or by other similar means.
---------------------------------------------------------------------------
\3\4Rule 4.21(b) (proposed to be renumbered as Rule 4.26(c))
sets forth the requirements for amending pool disclosure documents
to reflect a material change in the document.
---------------------------------------------------------------------------
6. Time Period for Which Past Performance Disclosure Would be Required
Current Rule 4.21 generally requires past performance to be
presented for a three-year period. However, the Commission is aware
that some registrants nonetheless include longer performance periods in
their disclosure documents for marketing purposes. The Commission
believes that requiring performance to be disclosed for a period longer
than three years will have the benefit of making performance
disclosures more uniform and will provide a better picture of the
evolution of performance over time, including positive and negative
fluctuations in returns. In addition, under the proposed summary format
for performance disclosure, lengthy tables to present performance data
would not be required. Consequently, adoption of a five-year disclosure
period would not result in any significant increase in the volume of
performance disclosures. Accordingly, the Commission is proposing to
increase the minimum time period for which performance would be
disclosed from three to five years. CPOs may continue to provide
additional performance disclosures provided the performance is
calculated in compliance with proposed Rule 4.25 and is included in the
document following the required performance disclosures as required by
proposed Rule 4.24(v) for information voluntarily provided.
A summary table of the proposed past performance disclosure
requirements follows.
Summary of Proposed Amendments to Performance Disclosure
Pools with three or more Performance of pool offered for up to five
years history. calendar years and year-to-date (``YTD''),
with monthly rates of return (``RORs'').
Pools with less than Performance of pool offered for life of pool
three years history. (monthly RORs); statement if pool has no
history.
Performance of CPO's or trading manager's
other pools and accounts (annual RORs).
If CPO or trading manager has less than three
years history in trading same type of pool,
performance of its principals (annual RORs).
Statement if no prior trading history of CPO
or trading manager and its principals.
Performance of major investee pools (``IPs'')
(allocated at least 25% of pool assets) and
major CTAs (allocated at least 25% of
futures margins and option premiums).
Statement if no prior history.
Unless performance otherwise disclosed,
indication of adverse performance of CPO,
CPO's or trading manager's trading
principals and IPs allocated 10% or more of
the pool's assets and CTAs allocated 10% or
more of the pool's futures margins and
option premiums.
7. Composite Performance Presentations
Rule 4.21(a)(4)(iv) currently permits the performance of pools
operated by each person for whom performance is required to be
disclosed to be presented on a composite basis provided that the
performance of the pool offered is separately disclosed, the CPO
describes how each composite was developed, and the composite is not
misleading. Rule 4.31 also permits composite presentation of the
performance of accounts directed by the CTA and each of its principals
provided that material differences among the accounts and the manner in
which the composite was developed are described.
Composite presentations have the obvious advantage of reducing the
volume of past performance data presented. However, composite
presentations raise a number of regulatory concerns precisely because
they supplant individualized presentations of potentially quite
different types of pools and trading programs and may smooth or
camouflage actual rates of return. Composite results not only fail to
reflect differences among the pools and accounts whose results are
presented but also merge potentially disparate trading results into
average trading results and thus fail to reflect the actual dispersion
of returns as well as the volatility of individual pools and accounts.
For these reasons, the Commission considered prohibiting the use of
composite performance data for pools as well as accounts.
The Commission has carefully considered the benefits and
disadvantages that may accrue from the use of composites and is
proposing an approach designed to realize the benefits of reducing the
volume of performance data created by the use of composites while
reducing the potential for misleading result presentations. Under the
proposal, past performance data for the pool offered and pools similar
to the pool offered would be required to be separately disclosed. Pools
of a different type from the pool offered would be permitted to be
presented in composites with other pools of the same type, provided
that such presentations would not be misleading. Pools would be
considered to be of a different type or category if they differed in
material respects. The proposed rule delineates several types of
material distinctions among pools for this purpose, including the
following: Pools privately offered pursuant to Regulation D of the
Securities Act and public pools; pools traded with materially different
leverages; limited risk pools and non-limited risk pools; pools using
different commodity or trading methodologies; and multi-advisor
pools35 and non-multi-advisor pools.
---------------------------------------------------------------------------
\3\5Proposed Rule 4.10(h) would define the term ``multi-advisor
pool'' as a pool in which no CTA is allocated twenty-five percent or
more of the pool's aggregate initial margin and premiums for futures
and commodity option contracts and no investee pool is allocated
twenty-five percent or more of the pool's assets.
---------------------------------------------------------------------------
A pool could be included in a composite with another pool only if
both pools were of the same type with respect to each of these
categories. For example, a publicly offered non-multi-advisor pool
could not be included in the same composite as a privately offered non-
multi-advisor pool and two limited risk pools that used different
trading programs or materially different degrees of leverage could not
be included in the same composite. Moreover, there may be instances in
which even composites of pools of the same type may be misleading, such
as where differences between the trading results of the pools are so
great that a composite would materially distort their results. For
example, two publicly offered multi-advisor pools with the same CTAs
could show widely disparate results unless each CTA were allocated
substantially the same portion of each pool's assets. Also, two single-
advisor pools with different CTAs may achieve very different results.
The proviso in proposed Rule 4.25(a)(3)(ii) that results may be
presented in composite form ``unless such presentation would be
misleading'' is intended to assure that composites are carefully
reviewed to protect against any material distortion that may result
from these types of situations.
Proposed Rules 4.25(a)(6) and 4.34(a)(2) would require that records
substantiating the performance data set forth in CPO and CTA documents,
respectively, and documenting the underlying calculations be maintained
in accordance with Rule 1.31. Naturally, this requirement also applies
with respect to composite presentations. Pursuant to proposed Rule
4.25(a)(3)(ii), a CPO must be prepared to justify the inclusion in a
composite of the pool results contained therein.
To present capsule performance of pools in a composite, the CPO
would name all pools included in the composite, set forth the
categories of these pools (which, as discussed above, would be the same
for each pool in the composite), including at a minimum the categories
specified in proposed Rule 4.25(a)(3)(iii), and specify the dates on
which each pool commenced trading. The aggregate gross capital
subscriptions would be the total subscriptions for all pools in the
composite. The draw-down figures would be the worst experienced by any
one of the pools included in the composite and the rate of return would
be the average rate of return for all pools included. The sample
capsule past performance presentation table set forth above following
the discussion on capsule performance includes an example of
performance presentation for pools (pools A and B, in the example)
whose performance is disclosed in composite form.
The Commission requests comment as to whether the pool categories
delineated in proposed Rule 4.25(a)(3)(iii) relating to composite
presentations are appropriate for purposes of limiting composite
presentations and as to whether any additional categories of pools
should be identified for this purpose. Comment is also requested as to
the costs and benefits of a general requirement of separate rather than
composite presentation of pool performance in lieu of a qualified
approach of the nature proposed.
Proposed Rule 4.34(a)(5) would permit CTAs to include in a
composite all accounts traded pursuant to the same trading program,
provided that such a presentation would not be misleading and provided
that the CTA describes how the composite was calculated. The term
``trading program'' would be defined in the rule as ``a trading
strategy differentiated from others by commodity trading methodology,
degree of risk or degree of leverage.'' Comment is requested as to the
necessity and feasibility of providing a more detailed definition of
the term ``trading program'' or additional guidance as to how trading
programs can be differentiated.
8. Proprietary Trading Results
Use of proprietary trading results in soliciting customer accounts
is a practice which has long been of concern to the Commission. CPOs
and CTAs may trade proprietary funds for a variety of purposes,
including to test a new trading strategy before implementing it for
customer funds or to establish a track record prior to trading customer
funds. However, proprietary accounts may be traded in a different
manner, for example, more aggressively, using higher leverage and
assuming greater risk, than customer accounts. Also, proprietary
accounts are usually not subject to the same fee schedule as customer
accounts. Naturally, no management or incentive fee would apply where a
CTA traded its own account, and clearing fees may be waived or reduced
if the account is cleared by an affiliate. In addition, where
proprietary and customer assets are combined for purposes of
performance presentations, the total amount of assets under management
is inflated and conceals the actual amount of customer funds being
traded. For these reasons, proprietary trading results may, in many
cases, be of little relevance to a prospective pool participant or CTA
client and actually misleading in others.
Currently, the Commission's rules do not specifically address the
use of proprietary trading results in disclosure documents. However, in
reviewing disclosure documents, because the rules require performance
of ``directed accounts'' and because of the prohibition against
misleading disclosures, Division staff have advised that any
proprietary trading results provided must be clearly labeled as such
and presented in a separate table to reduce the potential for
misleading investors. The staff also has required that if fees,
expenses, commissions, margin-to-equity ratios, or any other item
pertaining to the proprietary trading is materially different from that
relevant to the trading program offered to clients, the registrant must
``pro forma'' such items to correspond to those in the program offered.
In reviewing the Part 4 rules, the Commission considered
prohibiting the use of proprietary results in CPO and CTA disclosure
documents given the potentially misleading nature of such presentations
and their at best marginal relevance in the non-proprietary trading
context. However, the Commission is aware that proprietary trading
results may be the only performance results available to some new
traders to present to customers as evidence of trading experience.
Accordingly, rather than prohibiting disclosure of proprietary trading
results, the Commission is proposing to permit such disclosure under
appropriate restrictions. Under proposed Rule 4.25(a)(9), pools and
accounts in which the pool operator, trading manager, CTA or other
person providing services to the pool owned or controlled fifty percent
or more of the beneficial interest could not be included in disclosure
documents unless prominently labeled as such and set forth following
all required performance and non-performance disclosures. The
requirement that proprietary results follow all required disclosures,
rather than just the required performance disclosures, would reflect
the peripheral and potentially misleading nature of proprietary trading
results and reduce the potential for confusion of proprietary and
customer trading results.36
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\3\6The NFA Special Committee also reached the conclusion that
proprietary results should be displayed separately and labeled as
such and that adjustments for fee differentials and other
differences should be made.
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9. Pro Forma, Hypothetical and Extracted Results
The Commission also recognizes the potential for inappropriate use
of certain other types of performance data. These include hypothetical,
pro forma and extracted results. Hypothetical results are results
calculated based upon the application of a given program to historical
market prices and purport to present results that could have been
obtained in trading a particular program during the specified
historical period. Thus, hypothetical results are based on hindsight
and can be readily manipulated. Rule 4.41 requires that any
presentation of simulated or hypothetical trading results be
accompanied by a specified cautionary statement describing the limited
value of such results. In its rule submission, the NFA notes that a
number of NFA disciplinary cases have involved NFA members who
advertise hypothetical results to solicit unsophisticated customers.
When the trading program is unsuccessful and causes substantial
customer losses, the program is abandoned in favor of a new program for
which hypothetical results, based on hindsight, are presented. The
actual performance of customers whose accounts were traded under the
prior program may never be disclosed.
Pro forma results present trading results with adjustments to
reflect certain factors, such as a particular fee schedule or degree of
leverage, to permit easier comparison with other types of results. In
its rule submission, the NFA notes that in some instances the use of
pro forma results may have some of the same limitations as hypothetical
results. For example, some CPOs may use pro forma data to present
results that a multi-advisor pool could have achieved had assets been
allocated differently among CTAs than occurred in actuality. As the NFA
Special Committee concluded, ``[t]his use of pro forma results reflects
the same sort of hindsight that hypothetical results do and invites the
same sort of abuse.''
Extracted performance results isolate a single component of a
trading strategy for presentation to customers, and although based on
actual results, are subject to manipulation as they may
disproportionately emphasize a small portion of the overall strategy.
Although the Commission believes that the use of pro forma,
hypothetical and extracted results must be closely scrutinized, it has
determined not to prohibit them at the present time. Instead, like
other disclosures voluntarily provided, the disclosure of these types
of results would be subject to such restrictions as may be imposed
under the rules of a registered futures association and to the
Commission's general antifraud prohibitions. NFA's proposed Compliance
Rule 2-29(c) would strictly limit the use of hypothetical results in
promotional material, except in promotional material directed
exclusively to qualified eligible participants, as defined in CFTC Rule
4.7(a)(1)(ii). NFA's proposed interpretation of Compliance Rule 2-13
would permit pro forma performance histories solely for the purpose of
adjusting performance presentations to the same fee structure as that
of the pool or program offered. No pro forma results which reflect a
hindsight analysis, such as to show results a multi-advisor pool could
have achieved using a different allocation of assets among CTAs, would
be permitted. Extracted results would only be permitted to be presented
based on the percentage of net asset value actually committed to the
particular component extracted.
10. Voluntary Performance Disclosures
Pursuant to proposed Rule 4.24(v), disclosures, including
performance disclosures, other than those required by CFTC rules must
follow all relevant required disclosures in the disclosure document\37\
and may not be misleading in their content or presentation or
inconsistent with required disclosures.\38\ Performance disclosures
voluntarily provided could have misleading effects if favorable
performance data are given undue prominence. For example, if the
performance of two pools other than the offered pool operated by the
CPO were voluntarily provided, it may be misleading to show the
favorable performance of Pool 1 but not the negative performance of
Pool 2 or to show the performance of Pool 1 in capsule format and that
of Pool 2 in full format. It may also be misleading to show the
performance of a pool in capsule format for year one and in full format
for year two or to show the pool's performance for 1991 and not 1992.
Generally, inclusion of voluntarily provided performance data should be
made on a result-neutral basis that results in inclusion of all similar
data. For example, the past performance of two CTAs allocated an equal
portion of a pool's assets should either be included or omitted, as
should the performance of the CPO's other pools.
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\37\As noted above, proprietary trading results would be
required to follow all required disclosures.
\38\See general discussion on voluntary disclosures, infra.
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The Commission also notes that the practice of advertising the
performance of a particular CTA with an excellent track record to
attract prospective participants and shortly thereafter reallocating
pool assets to another CTA, a practice commonly referred to as ``bait-
and-switch,'' is misleading and that performance voluntarily provided
for this purpose is prohibited under general antifraud standards.
11. Cautionary Legends
The proposed rules would continue to require the inclusion of
certain legends alerting pool participants and prospective participants
to the lack of experience of the CPO (or trading manager), the pool's
CTAs and their principals. However, these legends have been revised and
substantially streamlined. Under current Rule 4.21, these legends are
required to recite the relevant performance disclosure requirement. For
example, Rule 4.21(4)(i)(B) requires a statement that the CFTC requires
disclosure of the performance of the pool offered and of other pools
operated by the CPO and its principals and that neither the CPO nor its
principals have any prior performance history.\39\ The proposed rules
would eliminate the prescribed statements concerning CFTC rules, with
the effect of deleting the bulk of the bold-faced disclosures and of
focusing attention upon the primary point to be conveyed, i.e., the
fact that the CPO and its principals have not previously operated any
commodity pools. Thus, the legend relating to the lack of trading
history of a pool would read: ``THIS POOL HAS NOT COMMENCED TRADING AND
DOES NOT HAVE ANY PERFORMANCE HISTORY'',\40\ and the legend relating to
the lack of experience of the CPO and its trading principals would
read: ``NEITHER THIS POOL OPERATOR NOR ANY OF ITS TRADING PRINCIPALS
HAS PREVIOUSLY OPERATED ANY OTHER POOLS OR TRADED ANY OTHER
ACCOUNTS.''\41\ Similar legends would be required, where applicable,
with respect to trading managers and major investee pools. To further
reduce the bulk of these disclosures, where several legends may be
required, the proposed rules provide an alternate legend consolidating
the several statements that would otherwise be required. For example,
the proposed rules would require a CTA disclosure document to disclose,
if true, the lack of experience of the CTA and its principals. If the
CTA had no prior experience, the following legend should be included:
``THIS TRADING ADVISOR PREVIOUSLY HAS NOT DIRECTED ANY ACCOUNTS.'' The
following legend would be used for trading principals: ``NONE OF THE
TRADING PRINCIPALS OF THIS TRADING ADVISOR HAS PREVIOUSLY DIRECTED ANY
ACCOUNTS.'' If neither the CTA nor any of its principals had prior
trading experience, rather than displaying these two separate legends,
the following single sentence would be included: ``NEITHER THIS TRADING
ADVISOR NOR ITS TRADING PRINCIPALS HAVE PREVIOUSLY DIRECTED ANY
ACCOUNTS.'' These proposals are designed to reduce disclosures that
complicate and lengthen disclosure documents while preserving
disclosures that may be important to prospective investors.
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\39\The entire legend reads as follows: ``THE COMMODITY FUTURES
TRADING COMMISSION REQUIRES THE OPERATOR OF A POOL THAT HAS TRADED
COMMODITY INTERESTS FOR LESS THAN 12 MONTHS TO DISCLOSE THE ACTUAL
PERFORMANCE RECORD OF THE POOL FOR ITS ENTIRE OPERATING HISTORY AND
THE ACTUAL PERFORMANCE RECORD OF EACH OTHER POOL OPERATED BY THE
POOL OPERATOR AND ITS PRINCIPALS. YOU SHOULD NOTE THAT THIS POOL
OPERATOR AND ITS PRINCIPALS PREVIOUSLY HAVE NOT OPERATED ANY OTHER
COMMODITY POOL.''
\40\Proposed Rule 4.25(c)(1)(ii).
\41\Proposed Rule 4.25(c)(2)(iii). Similarly, the legend
concerning major CTAs who have never directed accounts would read:
``(name of CTA), A COMMODITY TRADING ADVISOR THAT HAS DISCRETIONARY
AUTHORITY OVER (percentage of the pool's aggregate initial futures
margin and commodity option premiums allocated to that CTA) OF THE
POOL'S DIRECT FUTURES AND COMMODITY OPTION TRADING HAS NOT
PREVIOUSLY DIRECTED ANY ACCOUNTS.''
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A legend indicating that ``PAST PERFORMANCE IS NOT PREDICTIVE OF
FUTURE PERFORMANCE'' would be required to precede any performance
presentation, whether required or given voluntarily.\42\
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\42\Numerous studies have shown the general lack of predictive
value of past performance. See, e.g., Irwin, The Predictability of
Managed Futures Returns: Evidence from Multiple CTA Public Commodity
Pools, Working Paper Version, Ohio State University, Department of
Agricultural Economics and Rural Sociology (April 1992)
(unpublished). See also Futures Pools' Returns Are a Far Cry From
Their Brochures and Prospectuses Wall St. J., Oct 2, 1992.
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12. Order of Disclosures
For pools with an operating history shorter than three years, the
performance of the pool offered would be required to be the first
performance record presented in the disclosure document. Performance
data for pools of the same category as the pool offered would be
required to appear after the performance history of the pool offered
and to be presented on a pool-by-pool, that is non-composite, basis.
Pools of a different category from the pool offered would be required
to follow the performance of pools of the same category as the pool
offered. As discussed above, for purposes of applying the requirement
that composite presentations be used only for pools of the same
category, the rule would identify a number of categories of pools.
The Commission believes that the streamlined past performance
disclosure requirements should substantially increase the clarity and
readability of past performance disclosures.
The Commission requests comment on all aspects of Rule 4.25 and, in
particular, on the adequacy of the summary performance format to
provide a basis upon which a prospective pool participant may make an
informed judgment with respect to past performance results; whether a
three-year history is a sufficient basis for eliminating any
requirement for disclosure of past performance other than that of the
pool offered; and whether the ten percent allocation thresholds for
major CTAs and investee pools, below which no performance disclosures
would be required, is appropriate. The Commission also requests comment
as to whether past performance presentations would provide more
meaningful information if they were required to include rates of return
on a risk-adjusted basis, that is, reduced by the relevant Treasury
Bill rate or comparable interest figure, or to break out trading
results from passive interest income.
B. Section 4.24--Required General Disclosures
Under the proposal, non-performance disclosure requirements would
be set forth in Rule 4.24.
1. Table of Contents and Order of Required Information
As noted above, a primary objective of this proposal is to foster
clarity and comprehensibility in the disclosure of relevant information
to prospective pool participants. To this end, in addition to
eliminating certain required disclosures, the Commission is proposing
that certain information be presented in a required sequence which
would be specified in proposed Rules 4.24(a) through (d). Like current
Rule 4.21, proposed Rule 4.24 would require that a cautionary
statement, i.e., a statement that the CFTC has not passed upon the
merits of the pool investment or the adequacy of the disclosure
document, and any other information required under any other applicable
federal or state laws and regulations, appear on the cover page of the
disclosure document. The risk disclosure statement specified in Rule
4.24(b) would be required to be set forth immediately after these
disclosures. The next item in the disclosure document would be a table
of contents.\43\ Prior to any detailed disclosures with respect to the
pool and persons involved in operating and trading the assets of the
pool, in what would constitute the ``forepart'' of the disclosure
document, a prospective participant would find very basic information
concerning the pool.\44\ This information would include the name and
address of the pool and CPO; the type of pool being offered, i.e.,
whether the pool is privately offered pursuant to section 4(2) of the
Securities Act of 1933, a multi-advisor pool\45\, or a limited risk
pool\46\; a statement whether the pool is continuously offered or the
closing date of the offering; the date of the disclosure document; and
the ``break-even point'' for the pool, that is, the trading profit that
the pool must realize in its first year for a participant to recoup its
initial investment. The break-even point would provide a simple
illustration of the costs of investing in the pool and facilitate
comparisons among pools.\47\
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\43\Rule 4.21 currently does not require a table of contents.
However, most disclosure documents reviewed by the Division contain
such a table. Further, Form S-1, the form most frequently used to
register pool offerings with the SEC, requires ``a reasonably
detailed table of contents showing the subject matter of the various
sections or subdivisions of the prospectus and the page number on
which each section or subdivision begins.'' See Item 502(g) of
Regulation S-K, 17 CFR 229.502(g), incorporated by reference into
Item 2 of Form S-1, 17 CFR 239.11. The Commission believes that a
table of contents should contribute to making the disclosure
document ``user-friendly''.
\44\The cover page and forepart of CTA disclosure documents
would be organized in a similar fashion and a table of contents
would also be required.
\45\Proposed Rule 4.10(h) would define a ``multi-advisor pool''
as a pool in which no CTA is allocated twenty-five percent or more
of the pool's aggregate initial futures margins and commodity option
premiums and no investee pool is allocated twenty-five percent or
more of the pool's total assets.
\46\Proposed Sec. 4.10(i) would define the term ``limited risk
pool'' as a pool designed to limit the loss of the initial
investment of its participants.
\47\The break-even point is discussed in greater detail in the
fees and expense section, infra. The break-even point would be
required to account for hidden costs such as costs associated with
investments in investee pools. In multi-advisor pools the potential
consequences of incentive fees being calculated advisor-by-advisor
should also be a disclosed risk.
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The Commission considered whether a particular order for all
required information should be mandated in order to ``standardize'' the
entire format of disclosure documents but determined to propose only
the limited sequence requirements discussed above at this time.
However, the Commission requests comment on the appropriateness and
desirability of mandating that all required information be presented in
a specified order to foster clarity in and comparability of disclosure
documents, ease of regulatory review, and development of compliance
guidance or instructions.
2. Voluntary Disclosures
To address concerns that in many cases the disclosure process fails
to achieve its intended purpose due to the high volume of information
included in the disclosure document, the Commission is proposing a
format for disclosure documents under which ``voluntary'' disclosures,
i.e., those not required by Commission rules48 or those of other
regulators, would be required to be placed in the disclosure document
after all relevant required disclosures. Proposed Rule 4.24(v) would
require all information, other than that required by the Commission,
the antifraud provisions of the Act, and any federal or state
securities laws and regulations, to appear following the related
required disclosures. Such ``voluntary information'' could not be
misleading in content or presentation or inconsistent with required
disclosures. In addition, voluntary information would be subject to the
antifraud provisions of the Act and the regulations thereunder and to
rules regarding the use of promotional material promulgated by a
registered futures association pursuant to section 17(j) of the Act.
This format is designed to accommodate the apparent desire of some CPOs
and CTAs to include in disclosure documents information that is not
required under the Commission's rules or those of other regulators,
while assuring that core disclosures are given due prominence.
Naturally, CPOs and CTAs would continue to be subject to the antifraud
prohibitions of sections 4b and 4o of the Act, 7 U.S.C. 6b and
6o,49 with respect to all disclosures, including disclosures
voluntarily provided.
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\4\8CFTC-required disclosures include information required by
Rules 4.21(h) (proposed to be renumbered as Rule 4.24(w)) for CPOs
and 4.31(g) (proposed to be renumbered as Rule 4.33(o) for CTAs.
These rules require CPOs and CTAs to disclose all material
information to existing and prospective pool participants and
clients even if the information is not specifically required by
Commission rules.
\4\9Generally, section 4b of the Act prohibits fraud in
connection with the making of any contract of sale of any commodity
for future delivery. Section 4o of the Act prohibits CPOs, CTAs and
their associated persons from employing any device, scheme, or
artifice to defraud a pool participant, prospective pool participant
or client and from engaging in any transaction, practice or course
of business which operates as a fraud or deceit upon such
participant or client. In addition, CPOs, CTAs and their associated
persons are precluded from representing or implying that they have
been sponsored, recommended or approved by the United States or by
any agency or officer thereof.
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3. Investee Pools
The proposed disclosure framework specifically addresses
disclosures concerning investee pools. As discussed in the performance
section, for purposes of past performance disclosures, investee pools
would be treated comparably to CTAs, i.e., the scope of performance
disclosure required would be based on the amount of assets of the
offered pool committed to the investee pool. However, a different
benchmark for applying the twenty-five percent (as used in the major
investee pool definition) and ten percent (for adverse performance
disclosure to be required) thresholds is used for investee pools in
light of the fact that investments in other pools generally expose the
pool only to loss of the initial investment and that the full amount of
the investment is required to be paid at the inception of the
investment. The relative importance of investee pools to prospective
pool participants is thus more appropriately determined by reference to
the proportion of the pool's total assets invested in the investee
pool. The proposal would streamline other investee pool disclosures to
obviate the need for CPOs to substantially incorporate in the document
the contents of each investee pool's disclosure document.50 Non-
performance disclosure requirements relating to investee pools also
would be tailored to take into account the relative importance of the
investee pool to the offered pool, as measured by the amount of assets
of the pool offered allocated to it. Thus, no disclosures would be
required for investee pools allocated less than ten percent of the
assets of the pool offered and disclosures with respect to other
investee pools would be limited based on the proportion of the pool's
assets allocated to them. Specifically, with respect to each investee
pool allocated at least ten percent of the assets of the pool offered,
the CPO also would be required to disclose its name and that of its CPO
and its principals and any conflicts of interest on the part of the
investee pool's CPO in respect of the offered pool.
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\5\0See note 20 supra and accompanying text.
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With respect to major investee pools, i.e., those allocated twenty-
five percent or more of the assets of the offered pool, the CPO would
be required to disclose the business background of, material litigation
against, and any ownership in the pool offered on the part of its CPO
and its principals. In addition, the use of proceeds, risk factors,
fees and expense, and redemption sections of the document would call
for specific information relative to investments in investee pools.
Risk disclosure relative to investee pools would be required because
investments in investee pools may create both the risks inherent in the
investee pool's own investments and liquidity risks due to restrictions
upon redemption of the investment in the investee pool. Fees and
expenses may accrue at each level of a multi-tier structure and should
be disclosed. Investments in investee pools with redemption periods
different from those of the pool offered or with minimum ``lock-in''
provisions51 may affect the ability of that pool to promptly honor
redemption requests from its participants.
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\5\1Certain pools lock in initial investments for a specified
period before allowing any redemptions. There are no rules requiring
availability of redemption of pool interests in very short
timeframes as for investment companies, hence the added importance
of volatility disclosure.
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The Commission requests comment concerning the proposed treatment
of investee pools. In particular, commenters are invited to address any
special public policy or disclosure considerations presented by tiered
investment structures by means of which a commodity pool can, in
effect, appropriate the value of a second fund's management by
investing all or a portion of its funds in the second fund. The
Commission also requests comment concerning whether any additional
protections, other than disclosure of applicable fees, are appropriate
in light of the ``layering'' of fees that typically occurs at each
level of a fund of funds structure.
4. Risk Disclosure Statement
Rule 4.21 currently requires that disclosure documents include a
prescribed bold-face statement alerting prospective pool participants
to the risks involved in participating in a pool. This statement does
not specifically address the risks of trading foreign futures or
foreign option contracts. The risks attributable to foreign futures and
foreign options were originally required to be addressed by a special
disclosure statement, set forth in part 30 of the Commission's
regulations, which generally governs transactions in foreign futures
and foreign options.52 Thus, a CPO offering a pool expected to
trade foreign and domestic futures or options was required to include
in the disclosure document the Rule 4.21 risk disclosure statement,
which does not refer to foreign futures or options, and the Rule 30.6
foreign futures and options risk disclosure statement. However, Rule
1.55, the basic risk disclosure requirement applicable to FCMs and IBs
opening accounts for domestic futures and option contracts, was
recently amended to consolidate the required disclosures concerning
foreign futures and options into the domestic risk disclosure
statement, and the separate Rule 30.6(a) disclosure statement was
eliminated.53 Consequently, under the revised Rules 1.55 and 30.6,
CPOs and CTAs offering pools and accounts, respectively, which may
engage in foreign futures and option transactions would be required to
include the new consolidated Rule 1.55 risk disclosure statement as
well as the part 4 risk disclosure statement in the disclosure
document.
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\5\2The Rule 30.6(a) statement was required to be provided by
FCMs and IBs to clients opening foreign futures or foreign option
accounts and, pursuant to Rule 30.6(b), by CPOs and CTAs trading
foreign contracts for their pool or clients.
\5\358 FR 17495 (April 5, 1993).
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The Commission is proposing to address the potential for
duplicative disclosure created by the recent rule revisions and to
eliminate the necessity for providing two prescribed risk disclosure
statements by revising the part 4 risk disclosure statements for CPOs
and CTAs to address the risks of foreign as well as domestic
transactions. Rule 30.6(b) would be revised to cross-reference the part
4 statement. In addition, the terms ``domestic'' and ``foreign''
previously used to refer to contract markets or exchanges in foreign
jurisdictions are proposed to be replaced with the terms ``United
States'' and ``non-United States'' to avoid confusion in the context of
offerings in non-United States jurisdictions to non-United States
participants for whom the term ``foreign'' does not mean ``non-United
States''.54 Rule 1.55 would also be amended to provide that pools
need not be treated as customers for the purposes of delivery of the
risk disclosure statement.
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\5\4This discussion also applies generally to CTA disclosure
documents.
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5. Business Background
Rule 4.21(a)(2) currently requires disclosure of the business
backgrounds of the pool's CPO and CTA, and their principals. This
disclosure requirement would be streamlined by: (1) Eliminating the
requirement to disclose business backgrounds of CTAs except those of
major CTAs, i.e., CTAs allocated at least twenty-five percent of the
fund's futures margins and commodity option premiums; and (2) limiting
the requirement to disclose business backgrounds of principals55
of CPOs and CTAs to those principals ``who participate in making
trading or operational decisions for the pool or who supervise those so
engaged.''56 Comment is requested as to whether the business
backgrounds of all principals, even those who hold a passive ownership
interest in the CPO, should continue to be required to be disclosed.
The business backgrounds of trading managers, who represent a subset of
CTAs, and their principals who participate in making trading or
operational decisions or supervise persons so engaged would also be
required to be disclosed.
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\5\5Pursuant to current Rule 4.10(e), the term ``principal''
includes, with respect to an entity, a sole proprietor, general
partner, officer or director, or person occupying a similar status
or performing similar functions, having the power, directly or
indirectly, to exercise a controlling influence over the activities
of the entity. Holders and beneficial owners of at least ten percent
of the CPO or CTA and persons who contributed at least ten percent
of the CPO's or CTA's capital are also included.
\5\6All principals would continue to be required to be named in
the disclosure document.
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6. Principal Risk Factors
As noted above, current Rule 4.21(a)(17)(ii) requires the
inclusion, at the front of the disclosure document, of a ``boiler-
plate'' risk disclosure statement that describes generically the risks
of pool investments. Proposed Rule 4.24(g) would require, in addition
to this required disclosure, a discussion designed to address risk
factors specific to the pool offered. This discussion would address the
volatility of the pool investment as compared to investments in other
types of trading vehicles and other risks relating to the particular
trading program to be followed, such as risks resulting from
concentration of investments in particular commodities or contracts or
from trading foreign contracts that are subject to currency rate
fluctuations. Risks relative to transactions in off-exchange
instruments, e.g., counterparty creditworthiness risks,57 or to
the lack of relevant experience of the CPO or CTAs should also be
addressed. The Commission believes that a succinct ``plain English''
discussion of the risks of the investment being offered would be highly
material to the prospective participant's evaluation of the proposed
investment and that this type of disclosure warrants particular
attention when complex over-the-counter transactions are contemplated.
Establishment of an express requirement for disclosure of principal
risk factors essentially codifies disclosures that would likely be
required under the specific requirements of existing rules or as
material information.58
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\5\7These risks may differ materially from those entailed in
exchange-traded futures and option transactions, which are backed by
clearing organization guarantees, daily marking-to-market and
settlement, and segregation and minimum capital requirements
applicable to intermediaries. Transactions entered directly between
two counterparties generally do not benefit from such protections
and expose the parties to the risk of counterparty default.
\5\8This requirement is consistent with SEC requirements for
public offerings and investment company offerings. See, e.g., Item 3
of Form S-1, which requires a discussion of the principal factors
that make the offering speculative or one of high risk and Item 4(c)
of Form N-1A which requires a brief discussion of the ``principal
risk factors associated with investment in Registrant, including
factors peculiar to the Registrant as well as those generally
attendant to investment in an investment company with investment
policies and objectives similar to Registrant's.''
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The Commission welcomes comment as to whether additional guidance
should be given in the rule as to the types of risk factors that should
be discussed and as to any specific factors that should be identified
in this context.
7. Use of Proceeds
Under current Rule 4.21(a)(1)(viii), the pool operator must
describe the types of commodity interests that the pool is expected to
trade and any restrictions or limitations on such trading established
by the CPO. Current Rule 4.21(a)(9) requires a description of the
manner in which the pool will fulfill its margin requirements and of
the form in which non-margin funds will be held. The nature of non-cash
items must be described and the person to whom any income generated by
such items will be paid must be identified. Taken together, Rules
4.21(a)(1)(viii) and (a)(9) call for information concerning all types
of trading and investments in which the pool is expected to engage. As
a result, under current rules, CPOs generally provide a description of
the overall trading activities of the pool, such that the full range of
transactions, whether in securities, commodity interests or other types
of interests, is disclosed.
Under the proposal, current Rules 4.21(a)(1)(viii) and 4.21(a)(9)
would be consolidated into Rule 4.24(h) under the caption ``Use of
Proceeds''59 and revised to better reflect changes in the nature
of funds management. Proposed Rule 4.24(h) would require the
description of the pool's trading60 to include not only
transactions in commodity interests but also any other types of
interests in which the pool is expected to trade. With respect to pool
funds that are not deposited as margin or held in cash or cash
equivalents, the proposed rule would require disclosure of the nature
of such property, for example, whether it consists of securities listed
on a national securities exchange, bonds, commercial paper or interests
in commodity pools, whether such property is subject to state or
federal regulation or to regulation by a foreign government, and any
investment rating applicable to such property. The proposed rule also
would require the CPO to indicate the type of custodian, e.g., bank,
broker-dealer or other entity, which will hold property not deposited
as margin or option premiums and the jurisdiction where held, if other
than the United States. The Commission believes that the proposed use
of proceeds provision should provide a more coherent statement of the
matters called for by current requirements in a manner that is
consistent with current practice.
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\5\9Captions are proposed to be added to increase ease of
reference to the rules.
\6\0The proposed rule would also call specifically for a
description of the trading program that will be followed.
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8. Fees and Expenses
Rule 4.21(a)(7) currently requires a description of the expenses
that the CPO knows or should know have been incurred in the past year
or will be incurred in the current year. Expenses required to be
disclosed include, without limitation, fees for management, trading
advice, brokerage commissions, legal advice, accounting and
organizational services. Rule 4.21(a)(14) requires disclosure of fees
and commissions paid in connection with solicitations for the pool.
Proposed new Rule 4.24(i) would combine the requirements of Rule 4.21
(a)(7) and (a)(14) to provide in a single section of the disclosure
document a complete discussion of costs incurred by the pool for all
purposes.
The proposed provision relating to fees and expenses (Rule 4.24(i))
requires a detailed description of fees and expenses, including certain
fees and expenses that are not specifically enumerated in current Rule
4.21 but that constitute material disclosures and are thus required to
be disclosed.61 Thus, clearance fees and fees paid to national
exchanges and self-regulatory organizations, incentive fees, including
any disproportionate share of profits allocated to the CPO, i.e., a
right of the CPO to receive a greater than pro-rata share of the pool's
profits, and fees and expenses incurred as a result of investments in
investee pools and other investment vehicles or to fund the guarantee
of a limited risk pool, would be required to be set forth specifically
in the table. In addition, the proposed rule would clarify that
disclosure of fees paid in connection with solicitations for the pool
must include trailing commissions as well as any type of benefit that
may accrue to persons engaged in such solicitations.
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\6\1See note 48.
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Expenses, fees and commissions are assessed based on various
factors. For example, brokerage fees are assessed based on a round-turn
commission, management fees may be based on the net asset value of the
pool's assets, incentive fees on trading profits, and sales commissions
may be charged as a percentage of the proceeds of the offering. A
description of each separate fee and expense may not, however, convey a
clear understanding of the actual portion of each pool participation
absorbed by fees and expenses. As the risk disclosure statement
required by current Rule 4.21(a)(17) indicates, ``in some cases,
commodity pools are subject to substantial charges for management,
advisory and brokerage fees,'' and ``it may be necessary for those
pools that are subject to these charges to make substantial trading
profits to avoid depletion or exhaustion of their assets.''
To foster a better understanding of the nature of those costs and
their impact upon the investment, the proposal would require, in
addition to a narrative description, a tabular presentation of fees and
expenses from all sources setting forth how the break-even point for
the pool is calculated (``break-even analysis''). As noted supra, the
``break-even point'' for the pool, i.e., the trading profit that a pool
or trading program must realize in its first year to equal all fees and
expenses such that a participant or client will recoup its initial
investment,62 would be required to be set forth as a single figure
in the forepart of the pool disclosure document, expressed as a
percentage of a unit of initial investment. The break-even analysis
would provide an explanation, in tabular form, of how the break-even
point is calculated, taking into account all fees, expenses and
commissions applicable to the pool. The proposal would require the
break-even analysis to be prepared in accordance with rules promulgated
by a registered futures association pursuant to section 17(j) of the
Act. As noted above, NFA has filed with the Commission a proposed
interpretation of Compliance Rule 2-13 which would set forth how a
break-even point must be calculated and the format in which such
calculation must be disclosed.63 The Commission believes that
these proposed requirements with respect to fees and expenses will
serve to better codify disclosures required under existing rules and
assist readers of disclosure documents in understanding the nature and
effect upon investment returns of costs incidental to the offering and
operation of the pool. The Commission requests comment as to whether a
description of fees and expenses should continue to be required or
whether the break-even analysis is sufficient to accurately describe
the costs of participation in a pool.
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\6\2This definition would be set forth in Rule 4.10(n).
\6\3As set forth in NFA's proposed interpretation of Compliance
Rule 2-13, to calculate the break-even point, the CPO would
determine, per unit of participation, the amount of fees and
expenses expected to be incurred by the pool during its first year
of operation and subtract from that amount the amount of interest
income expected to be earned by the pool in its first year, to
obtain the pool's gross trading profit necessary for the pool to
retain its initial net asset value per unit. The CPO would then
determine the amount of additional trading profits necessary to
offset the incentive fees which the CPO would charge for managing
the pool. Finally, the CPO would calculate the total amount of
trading income that the pool must earn to equal the initial selling
price per unit after one year. This calculation would be required to
be presented in tabular form.
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9. Conflicts of Interest and Related Party Transactions
Pursuant to current Rule 4.21(a)(3), a description of any actual or
potential conflict of interest regarding the pool on the part of the
CPO, CTA, FCM, IB and their principals must be included in the
disclosure document. This discussion must include a description of any
arrangement whereby the CPO, CTA or their principals may benefit from
the maintenance of the pool account with the FCM or from its
introduction to an FCM by an IB. Like current Rule 4.21(a)(3), proposed
Rule 4.24(j) would require disclosure of any conflict of interest on
the part of the pool's CPO and its principals. Subject to the
requirement that all material information be disclosed, the proposal
would eliminate such disclosure with respect to CTAs allocated less
than ten percent of the pool's futures margins and commodity option
premiums and investee pools allocated less than ten percent of the
pool's assets.64 The proposed rule also would require disclosure
of conflicts of interest with respect to any persons providing services
to the pool or soliciting participants for the pool. This provision
would encompass certain categories of Commission registrants specified
in the existing rule, i.e., FCMs and IBs, as well as any other person
providing services to the pool.65 The Commission believes that the
purposes of conflict of interest disclosure are not limited to
situations where such conflicts relate to a Commission registrant and
that there may be unregulated parties, e.g., a CPO affiliate acting as
counterparty to over-the-counter transactions with the pool, as to whom
such disclosure may be equally material. Consequently, the Commission
proposes to delete the specific reference in the current rule to the
pool's FCM and IB and their principals and to substitute more general
terminology intended to include but not to be limited to FCMs and IBs.
Although the express requirement of disclosure of conflicts of interest
on the part of FCM and IB principals would be eliminated, disclosure of
such conflicts may be required as material information in specific
situations, e.g., where an FCM's majority owner or other controlling
person has such a conflict in regard to the pool.
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\6\4Under the general materiality standard, disclosure of
conflicts of interest on the part of CTAs and CPOs of investee pools
below the ten percent thresholds would be required if, in light of
all relevant circumstances, including, for example, the nature and
severity of the conflict, such disclosure would be material to
prospective pool participants.
\6\5However, current Rule 4.21(h) would require disclosure of
all material conflicts of interest.
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In addition, the current provision requiring the description of
carrying broker or introducing arrangements benefitting the CPO or CTA
and their principals has been revised to make clear that payments for
order flow and soft dollar arrangements must be included. Payment for
order flow is a practice whereby FCMs and IBs compensate CPOs and CTAs
for directing customers to them. Soft dollar arrangements consist of
arrangements whereby customer or pool funds are used to pay for
research or other services that benefit the CPO or CTA. Both practices
have been of concern to regulators because, among other things, they
are often inadequately disclosed.66
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\6\6See, e.g., SEC Release No. 34-33026, 58 FR 52934 (October 6,
1993) and Market 2000, An Examination of Current Equity Market
Developments: Study V, Best Execution (Division of Market
Regulation, SEC, January 1994).
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Separately, under proposed Rule 4.24(k) (``Related Party
Transactions''), any material transactions or arrangements for which
there is no publicly disseminated price between the pool and any person
affiliated with a person providing services to the pool, would be
required to be disclosed, including the costs of such transactions to
the pool.67 The Commission believes that this type of disclosure
may be viewed as already required in many cases under the general
requirement that material information be disclosed. However, given the
increasing use of over-the-counter transactions in which pools contract
with the pool operator or an affiliate of the pool operator, an express
requirement for such disclosure appears warranted.
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\6\7The purpose of this requirement is illustrated by the events
preceding the demise of Stotler Funds, Inc., a wholly-owned
subsidiary of Stotler Group, Inc. (``Stotler Group''), a registered
FCM. See Complaint, CFTC v. Stotler Funds, Inc., Civil Action No. 90
C 4387 (N.D. III., July 31, 1990). The defendant, Stotler Funds,
Inc., was the general partner and CPO of, among other pools, Compass
Futures Fund (``Compass'') and Advanced Portfolio Management,
Limited Partnership (``Advanced''). The Commission's complaint
included allegations that in December 1989, Compass used pool funds
in the amount of approximately $4,550,000 (about 80% of its assets)
to purchase commercial paper issued by Stotler Group and that
Advanced used pool funds in the amount of approximately $1 million
(about 10% of its assets) to make a loan to Stotler Group. The
disclosure documents of Compass and Advanced did not disclose such
uses of pool funds. The limited partnership agreement for Compass
specifically precluded the use of pool funds to make loans.
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10. Litigation
Current Rule 4.21(a)(13) requires disclosure of any material
administrative, civil or criminal action within the five years
preceding the date of the disclosure document against the CPO, CTA(s),
FCM, IB and their principals. Like the current rule, proposed Rule
4.24(1) would require the disclosure of administrative, civil or
criminal actions against certain persons involved in operating or
trading the pool during the five years preceding the date of the
disclosure document. However, this requirement would be substantially
simplified. Concluded actions that resulted in an adjudication on the
merits in favor of such persons would not be required to be disclosed.
In addition, disclosure of the litigation background of FCMs and IBs
would be limited as follows. First, with respect to litigation brought
by private parties, the proposed rule would provide for the materiality
of the action to be determined by reference to the potential financial
impact upon the FCM or IB. Specifically, an action would be considered
material if it would be required to be disclosed in the notes to the
registrant's financial statements prepared pursuant to generally
accepted accounting principles (``GAAP''). Generally, under GAAP,
certain information regarding litigation must be disclosed if the
potential of a financial loss from the litigation is either probable
(i.e., likely to occur) or reasonably possible (more than remote but
less than likely).68 Except for events occurring subsequent to the
issuance of the latest certified financial statements, under this
paragraph, litigation required to be disclosed would already have been
disclosed in the FCM's or IB's latest certified financial statements.
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\6\8See FASB-5 (Accounting for Contingencies) relating to
disclosure of contingencies, including litigation.
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Second, the requirement to disclose actions brought by the
Commission and other regulatory agencies against FCMs and IBs would be
streamlined. Actions brought by the Commission would be treated
differently from those brought by other regulatory agencies due to the
presumptively greater significance of such actions to an investment
decision. All actions brought by the Commission would be considered
material other than concluded actions which did not result in fines
exceeding $50,000 and did not involve allegations of fraud or other
willful misconduct. Actions brought by any other federal or state
agency or by a self-regulatory organization, whether domestic or
foreign, would be considered material if they involved allegations of
fraud or other willful misconduct.69
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\6\9Litigation disclosures in CTA disclosure documents with
respect to FCMs and IBs would be simplified in similar fashion.
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In addition, the proposed rule would eliminate the requirement to
disclose litigation against CTAs allocated less than twenty-five
percent of the pool's initial futures margins and commodity option
premiums and the principals of FCMs and IBs. Of course, as noted above
with respect to conflicts of interest on the part of FCM and IB
principals, the requirement to disclose all material information may
require such disclosure in particular cases. Proposed Rule 4.24(l) also
requires disclosure of litigation against a pool's trading manager, if
any, and its principals, a requirement which is encompassed within the
existing requirement for disclosure of litigation against CTAs.
11. Limited Risk Pools
So-called ``guaranteed pools,'' which generally are designed to
assure participants the return of their initial investment, have been
extensively offered in recent years. Such pools generally commit a
significant portion of their assets to interest-bearing instruments,
letters of credit or other investments to fund the ``guarantee'' and
correspondingly reduce the level of their futures or other investments.
Many ``guarantee'' structures require that the participant maintain his
investment in the fund for a specified period of years in order to
realize on the guarantee. Because such structures impose significant
costs which limit the potential for futures and other investment-
related returns, are often subject to significant conditions, e.g.,
that redemption rights not be exercised for a specified period of years
from the date of the initial investment, and are subject to varying
degrees of risk of nonfulfillment due to unforeseen trading losses or
other reasons, the use of ``guarantee'' terminology in pool disclosure
documents raises certain regulatory concerns. These concerns relate to
such matters as the representations expressly or impliedly made as to
the nature and security of the pool investment and the impact of the
guarantee structure upon the overall investment. In Advisory 86-
170, the Division of Trading and Markets set forth certain
disclosures that should be made in this context to assure that
prospective investors are apprised of material information concerning
guarantee structures. These include, for example, statements that a
specified percentage of each unit of participation in the pool has been
set aside to purchase the guarantee, that redemptions are not available
for a specified period and that additional expenses and management fees
are charged in connection with the guarantee, as applicable.
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\7\0(1984-1986 Transfer Binder), Comm. Fut. L. Rep. (CCH)
23,035 (April 25, 1986).
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Proposed Rule 4.24(o) would codify minimum disclosures relevant to
limited risk pools. Under the proposal, the term ``limited risk pool''
would be defined in Rule 4.10(i) to mean ``a pool * * * that is
designed to limit the loss of the initial investment of its
participants.'' Rule 4.24(o) would generally codify Advisory 86-1 by
requiring the CPO of a limited risk pool to describe the nature of the
limitation on risk intended to be provided, the manner in which the
limitation is achieved, including the cost of providing it, the
conditions that must be satisfied for participants to receive the
benefits of the risk limitation and the circumstances in which the risk
limitation becomes operative.71 CPOs are also reminded of the
admonition in Advisory 86-1 that ``(a)ny statements that suggest that
the risks of futures trading are decreased by reason of this structure
have a high potential to mislead or deceive and could result in serious
violations of the Commission's regulations and anti-fraud provisions.''
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\7\1Proposed Rule 4.24(p), which deals with transferability and
redemption, would require a description of restrictions on
redemption associated with the pool's investments. The Commission
intends that this discussion include a description of any
restrictions on transferability and redemption due to use of pool
funds to support a guarantee and of any restrictions upon vesting of
a guarantee.
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12. Other Proposed Changes
Current Rule 4.21 requires certain negative statements to be made
in a pool disclosure document where there is no pertinent information
to report. A CPO must state, if true, that there are no actual or
potential conflicts of interest regarding any aspect of the pool on the
part of certain persons, that certain persons do not own any beneficial
interest in the pool, that no material litigation occurred within the
past five years against the CPO, CTA, FCM, IB and their principals, and
that the CPO, CTA, and their principals will not trade for their own
accounts. These negative statements would no longer be required.
Proposed Rule 4.21 would permit CPOs to provide prospective
participants who are accredited investors as defined in Rule 501 of
Regulation D of the Securities Act\72\ with a notice of intended
offering and term sheet prior to delivery of the disclosure document.
This provision should facilitate the offering of pools that qualify for
relief from registration under the Securities Act as private offerings.
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\7\217 CFR Rule 230.501 (1993).
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The Commission is requesting comment as to whether there are
specific situations in which the streamlined disclosure document
proposed herein may not offer adequate protection to prospective and
existing pool participants or managed account clients. Further, the
Commission requests comment as to whether additional changes to further
streamline the requirements of Rule 4.21 and 4.31 and improve the
clarity of such disclosures could be made without reducing customer
protection and on whether any additional disclosures should be
required.
The Commission also requests comment on whether the requirement in
current Rule 4.21(d) (proposed to be numbered as Rule 4.21(b)) that a
CPO must receive from a prospective pool participant an acknowledgment
that the participant has received a disclosure document for the pool
continues to be necessary.
C. Section 4.26--Use, Amendment and Filing of Disclosure Documents
Except as follows, the requirements for updating pool disclosure
documents would remain substantially unchanged and are proposed to be
set forth in Rule 4.26. The Commission is proposing to extend from six
to nine months the maximum period between the date on a disclosure
document and the date of its use. This would conform the updating
requirements of pool disclosure documents to those of Section 10(a)(3)
of the Securities Act for public securities offerings.73 As under
current Rule 4.21(b), two copies of each amendment to the disclosure
document must be filed within twenty-one calendar days of the date upon
which the pool operator first knows or has reason to know of the defect
requiring the amendment. There has been some uncertainty as to whether
amendments are subject to the twenty-one day prefiling requirements of
current Rule 4.21(g)(1) (renumbered as Rule 4.26(d)(1)). The Commission
is confirming that such amendments may be used simultaneously with
their filing with the Commission, i.e., not more than twenty-one days
after the date on which the pool operator first knows or has reason to
know that the disclosure document is materially inaccurate or
incomplete.
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\7\3Section 10(a)(3) of the Securities Act requires that when a
securities prospectus is used more than nine months after the
effective date of the registration statement, information contained
therein may not be as of a date more than sixteen months prior to
such use if the information is known and can be furnished without
unreasonable effort or expense.
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IV. Related Matters
A. Regulatory Flexibility Act
The Regulatory Flexibility Act (``RFA''), 5 U.S.C. 601-611 (1988),
requires that agencies, in proposing rules, consider the impact of
those rules on small businesses. The rule amendments discussed herein
would affect registered CPOs and CTAs. 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.74 The Commission previously determined
that registered CPOs are not small entities for the purpose of the
RFA.75 With respect to CTAs, the Commission has stated that it
would evaluate within the context of a particular rule proposal whether
all or some affected CTAs would be considered to be small entities and,
if so, the economic impact on them of any rule.76
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\7\447 FR 18618-18621 (April 30, 1982).
\7\547 FR 18619-18620.
\7\647 FR 18618, 18620.
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The amendments proposed herein would reduce rather than increase
the requirements of Rule 4.21 for CPOs and the requirements of Rule
4.31 for CTAs. Accordingly, pursuant to Rule 3(a) of the RFA (5 U.S.C.
605(b)), the Acting Chairman, on behalf of the Commission, certifies
that these proposed amendments would not have a significant economic
impact on a substantial number of small entities. The Commission
nonetheless invites comment from any registered CPO or CTA who believes
that these rules would have a significant impact on its operations.
B. Paperwork Reduction Act
The Paperwork Reduction Act of 1980, (``PRA'') 44 U.S.C. 3501 et.
seq., imposes certain requirements on federal agencies (including the
Commission) in connection with their conducting or sponsoring any
collection of information as defined by the PRA. In compliance with the
PRA the Commission has submitted these proposed rule amendments and the
associated information collection requirements to the Office of
Management and Budget. The burden associated with this entire
collection, including this proposed rule, is as follows:
Average Burden Hours per Response: 124.65.
Number of Respondents: 3,924.
Frequency of Response: On Occasion.
The burden associated with these specific proposed rules, is as
follows:
Average Burden Hours per Response: 8.05.
Number of Respondents: 1,162.
Frequency of Response: On Occasion.
Persons wishing to comment on the estimated paperwork burden
associated with this proposed rule should contact Gary Waxman, Office
of Management and Budget, room 3228, NEOB, Washington, DC 20503, (202)
395-7340. Copies of the information collection submission to OMB are
available from Joe F. Mink, CFTC Clearance officer, 2033 K Street, NW.,
Washington, DC 20581, (202) 254-9735.
List of Subjects
17 CFR Part 1
Customer protection, risk disclosure statements.
17 CFR Part 4
Commodity pool operators and commodity trading advisors.
17 CFR Part 30
Foreign futures and foreign options transactions.
17 CFR Part 150
Limits on positions.
In consideration of the foregoing, and pursuant to the authority
contained in the Commodity Exchange Act, and in particular, sections
2(a)(1), 4b, 4c, 41, 4m, 4n, 4o, and 8a, 7 U.S.C. 2, 6b, 6c, 61, 6m,
6n, 6o, and 12a, the Commission hereby proposes to amend 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, 2a, 4, 4a, 6, 6a, 6b, 6c, 6d, 6e, 6f,
6g, 6h, 6i, 6j, 6k, 61, 6m, 6n, 6o, 6p, 7, 7a, 7b, 8, 9, 12, 12a,
12c, 13a, 13a-1, 16, 16a, 19, 21, 23 and 24.
2. Section 1.55 is proposed to be amended by adding paragraph
(a)(1)(iii) to read as follows:
Sec. 1.55 Distribution of ``Risk Disclosure Statement'' by futures
commission merchants and introducing brokers.
(a)(1) * * *
(iii) Solely for purposes of this section, a pool operated by a
commodity pool operator registered under the Commodity Exchange Act or
exempt from such registration need not be treated as a customer.
* * * * *
PART 4--COMMODITY POOL OPERATORS AND COMMODITY TRADING ADVISORS
3. The authority citation for part 4 continues to read as follows:
Authority: 7 U.S.C. 1a, 2, 4, 6b, 6c, 61, 6m, 6n, 6o, 12a and
23.
Subpart A--General Provisions, Definitions and Exemptions
4. Section 4.10 is proposed to be amended by adding new paragraphs
(h), (i), (j), (k), (l), (m), and (n) to read as follows:
Sec. 4.10 Definitions.
* * * * *
(h) Multi-advisor pool means a pool in which no commodity trading
advisor is allocated or intended to be allocated twenty-five percent or
more of the pool's aggregate initial margin and premiums for futures
and commodity option contracts and no investee pool is allocated or
intended to be allocated twenty-five percent or more of the pool's
total assets.
(i) Limited risk pool means a pool (commonly referred to as a
``guaranteed pool'') that is designed to limit the loss of the initial
investment of its participants.
(j) Trading manager means, with respect to a pool, any person,
other than the commodity pool operator of the pool, with authority to
allocate pool assets to commodity trading advisors or investee pools.
(k) Major commodity trading advisor means any commodity trading
advisor that is allocated or is intended to be allocated at least
twenty-five percent of the pool's aggregate initial margin and premiums
for futures and commodity option contracts.
(l) Major investee pool means any investee pool that is allocated
or intended to be allocated at least twenty-five percent of the assets
of the pool.
(m) Trading principal means:
(1) A principal of a commodity pool operator who participates in
making commodity interest trading decisions for a pool, or who
supervises, or has authority to allocate pool assets to, persons so
engaged; and
(2) A principal of a commodity trading advisor who participates in
making commodity interest trading decisions for a client account or who
supervises or selects persons so engaged.
(n) Break-even point means the trading profit that a pool or
trading program must realize in its first year to equal all fees and
expenses such that a participant or client will recoup its initial
investment, as calculated pursuant to rules promulgated by a registered
futures association pursuant to section 17(j) of the Act. The break-
even point must be expressed as a percentage of the minimum unit of
initial investment and assume redemption of the initial investment at
the end of the first year of investment.
5. Section 4.12 is proposed to be amended by revising paragraphs
(b)(2)(i) and (b)(5)(i) to read as follows:
Sec. 4.12 Exemption from provisions of part 4.
* * * * *
(b) * * *
(2) * * *
(i) In the case of Sec. 4.24, that the Commission accept in lieu
and in satisfaction of the disclosure document specified by that
section an offering memorandum for the pool which does not contain the
information required by Secs. 4.24(a), 4.24(b), and 4.24(n), provided,
that the offering memorandum:
(A) Is prepared pursuant to the requirements of the Securities Act
of 1933 or the exemption from said Act pursuant to which the pool is
being offered and sold;
(B) Contains the information required by Secs. 4.24(c) through (m)
and (o) through (u);
(C) Complies with the requirements of Secs. 4.24(v) and (w).
* * * * *
(5)(i) If a claim of exemption has been made under
Sec. 4.12(b)(2)(i), the commodity pool operator must make a statement
to that effect on the cover page of each offering memorandum, or
amendment thereto, that it is required to file with the Commission
pursuant to Sec. 4.26.
* * * * *
6. Section 4.21 is proposed to be revised to read as follows:
Sec. 4.21 Required Delivery of Pool Disclosure Document.
(a) No commodity pool operator registered or required to be
registered under the Act may, directly or indirectly, solicit, accept
or receive funds, securities or other property from a prospective
participant in a pool that it operates or that it intends to operate
unless, on or before the date it engages in that activity, the
commodity pool operator delivers or causes to be delivered to the
prospective participant a disclosure document for the pool containing
the information set forth in Sec. 4.24, Provided, however, That where
the prospective investor is an accredited investor, as defined in 17
CFR 230.501, a notice of intended offering and term sheet may be
provided subject to rules promulgated by a registered futures
association pursuant to section 17(j) of the Act.
(b) The commodity pool operator may not accept or receive funds,
securities or other property from a prospective participant unless the
pool operator first receives from the prospective participant an
acknowledgment signed and dated by the prospective participant stating
that the participant received a disclosure document for the pool.
7. Section 4.22 is proposed to be amended by adding new paragraph
(a)(4) to read as follows:
Sec. 4.22 Reporting to pool participants.
(a) * * *
(4) The Account Statement must provide the names of all commodity
trading advisors directing trading for the pool and of all investee
pools as of the date of the Account Statement, together with the
percentage of pool assets each is allocated. In addition, if the
performance of major commodity trading advisors and investee pools is
required to be disclosed in a pool disclosure document, the Account
Statements must include the past performance of each commodity trading
advisor previously allocated less than ten percent of the pool's
aggregate initial margin and premiums for futures and commodity option
contracts and investee pool previously allocated less than ten percent
of the pool assets that is a major commodity trading advisor or
investee pool as of the date of the Account Statement.
* * * * *
8. Section 4.23 is proposed to be amended by revising paragraph
(a)(3) to read as follows:
Sec. 4.23 Recordkeeping.
* * * * *
(a) * * *
(3) The acknowledgement specified by Sec. 4.21(b) for each
participant in the pool.
* * * * *
9. Sections 4.24, 4.25 and 4.26 are proposed to be added as
follows:
Sec. 4.24 General disclosures required.
Except as otherwise provided herein, a disclosure document must
include the following information.
(a) Cautionary statement. The following Cautionary Statement must
be prominently displayed on the cover page of the disclosure document.
THE COMMODITY FUTURES TRADING COMMISSION HAS NOT PASSED UPON THE
MERITS OF PARTICIPATING IN THIS POOL NOR HAS THE COMMISSION PASSED
ON THE ADEQUACY OR ACCURACY OF THIS DISCLOSURE DOCUMENT.
(b) Risk Disclosure Statement. (1) The following Risk Disclosure
Statement must be prominently displayed immediately following any
disclosures required to appear on the cover page of the disclosure
document as provided by the Commission or any applicable federal or
state securities laws and regulations.
RISK DISCLOSURE STATEMENT
YOU SHOULD CAREFULLY CONSIDER WHETHER YOUR FINANCIAL CONDITION
PERMITS YOU TO PARTICIPATE IN A COMMODITY POOL. IN SO DOING, YOU
SHOULD BE AWARE THAT FUTURES AND OPTIONS TRADING CAN QUICKLY LEAD TO
LARGE LOSSES AS WELL AS GAINS. SUCH TRADING LOSSES CAN SHARPLY
REDUCE THE NET ASSET VALUE OF THE POOL AND CONSEQUENTLY THE VALUE OF
YOUR INTEREST IN THE POOL. IN ADDITION, RESTRICTIONS ON REDEMPTIONS
MAY AFFECT YOUR ABILITY TO WITHDRAW YOUR PARTICIPATION IN THE POOL.
FURTHER, COMMODITY POOLS MAY BE SUBJECT TO SUBSTANTIAL CHARGES
FOR MANAGEMENT, AND ADVISORY AND BROKERAGE FEES. IT MAY BE NECESSARY
FOR THOSE POOLS THAT ARE SUBJECT TO THESE CHARGES TO MAKE
SUBSTANTIAL TRADING PROFITS TO AVOID DEPLETION OR EXHAUSTION OF
THEIR ASSETS. THIS DISCLOSURE DOCUMENT CONTAINS A COMPLETE
DESCRIPTION OF EACH EXPENSE TO BE CHARGED THIS POOL AT PAGE (insert
page number) AND A STATEMENT OF THE PERCENTAGE RETURN NECESSARY TO
BREAK EVEN, THAT IS, TO RECOVER THE AMOUNT OF YOUR INITIAL
INVESTMENT, AT PAGE (insert page number).
THIS BRIEF STATEMENT CANNOT DISCLOSE ALL THE RISKS AND OTHER
FACTORS NECESSARY TO EVALUATE YOUR PARTICIPATION IN THIS COMMODITY
POOL. THEREFORE, BEFORE YOU DECIDE TO PARTICIPATE IN THIS COMMODITY
POOL, YOU SHOULD CAREFULLY STUDY THIS DISCLOSURE DOCUMENT, INCLUDING A
DESCRIPTION OF THE PRINCIPAL RISK FACTORS OF THIS INVESTMENT, AT PAGE
(insert page number).
(2) If the pool may trade foreign futures or options contracts, the
Risk Disclosure Statement must further state:
YOU SHOULD ALSO BE AWARE THAT THIS COMMODITY POOL MAY TRADE
FOREIGN FUTURES OR OPTIONS CONTRACTS. TRANSACTIONS ON MARKETS
LOCATED OUTSIDE THE UNITED STATES, INCLUDING MARKETS FORMALLY LINKED
TO A UNITED STATES MARKET, MAY BE SUBJECT TO REGULATIONS WHICH OFFER
DIFFERENT OR DIMINISHED PROTECTION TO THE POOL AND ITS PARTICIPANTS.
FURTHER, UNITED STATES REGULATORY AUTHORITIES MAY BE UNABLE TO
COMPEL THE ENFORCEMENT OF THE RULES OF REGULATORY AUTHORITIES OR
MARKETS IN NON-UNITED STATES JURISDICTIONS WHERE TRANSACTIONS FOR
THE POOL MAY BE EFFECTED.
(c) Table of Contents. A table of contents showing, by subject
matter, the location of the disclosures made in the disclosure document
must appear immediately following the Risk Disclosure Statement.
(d) Information Required In the Forepart of the Document: (1) The
name, address of the main business office, main business telephone
number and form of organization of the pool. If the mailing address of
the main business office is a post office box number or is not within
the United States, the pool operator must state where the pool's books
and records will be kept and made available for inspection;
(2) The name, address of the main business office, main business
telephone number and form of organization of the commodity pool
operator. If the mailing address of the main business office is a post
office box number or is not within the United States, the pool operator
must state where its books and records will be kept and made available
for inspection;
(3) A statement whether the pool is:
(i) privately offered pursuant to 15 U.S.C. 4(2) of the Securities
Act of 1933;
(ii) A multi-advisor pool as defined in Sec. 4.10(h);
(iii) A limited risk pool as defined in Sec. 4.10(i); and
(iv) Continuously offered and if not, the closing date of the
offering.
(4) The date when the disclosure document will first be used; and
(5) The break-even point per unit of initial investment, as
specified in Sec. 4.10(n).
(e) The name of: (1) Each principal of the pool operator;
(2) The pool's trading manager, if any, and each principal thereof;
and
(3) Each investee pool allocated or intended to be allocated at
least ten percent of the assets of the pool offered, each commodity
trading advisor that is allocated or intended to be allocated at least
ten percent of the pool's aggregate initial margin and premiums for
futures and commodity option contracts, the operator of each such
investee pool and each principal of such commodity trading advisor and
of the commodity pool operator of such investee pool;
(4) Which of the foregoing persons will make trading decisions for
the pool; and
(5) If known, the futures commission merchant through which the
pool will execute its trades.
(f) Business background. (1) The business background, for the five
years preceding the date of the disclosure document, of:
(i) The commodity pool operator, the pool's trading manager, if
any, each major commodity trading advisor and the operator of each
major investee pool; and
(ii) Each principal of the foregoing persons who participates in
making trading or operational decisions for the pool or supervises
persons so engaged.
(2) The pool operator must include in the description of the
business background of each such person the name and main business of
that person's employers, business associations or business ventures and
the nature of the duties performed by such person for the employers or
in connection with the associations or ventures.
(g) Principal risk factors. As applicable, a discussion of the
principal risk factors of this investment. This discussion must
include, without limitation, risks relating to volatility, leverage,
and counterparty creditworthiness.
(h) Use of proceeds. The pool operator must disclose:
(1) The types of commodity interests or other interests the
commodity pool operator intends that the pool will hold or trade, with
a description of the trading program that will be followed and any
restrictions or limitations on such interests or trading required by
the pool's organizational documents or otherwise.
(2)(i) The manner in which the pool will fulfill its margin
requirements and the approximate percentage of the pool's property that
will be segregated pursuant to the Act and the Commission's regulations
thereunder.
(ii) If property deposited as margin generates income, to whom that
income will be paid.
(iii) If the pool will fulfill its margin requirements with other
than cash deposits, the nature of such deposits.
(3) With respect to pool property not deposited as margin, paid as
premiums or held in cash or cash equivalents:
(i) The nature of such property (e.g., securities listed on a
national securities exchange, interests in commodity pools or other
funds, bonds, commercial paper) including whether such property is
subject to state or federal regulation or to regulation by a foreign
government, and any investment rating thereof; and
(ii) The custodian or other entity, e.g., bank or brokerdealer,
which will hold pool property not deposited as margin or paid as
premiums, and, if such property will be held or invested outside of the
United States, its territories or possessions, the jurisdiction in
which it will be held;
(i) Fees and expenses. (1) A complete description of each fee,
expense and commission which the commodity pool operator knows or
should know has been incurred by the pool for its preceding fiscal year
and is expected to be incurred by the pool in its current fiscal year,
including fees and expenses occurring within investee pools.
(2) This description shall include, but not be limited to:
(i) Management fees;
(ii) Brokerage fees and commissions, including interest income paid
to futures commission merchants;
(iii) Fees and commissions paid in connection with trading advice
provided to the pool;
(iv) Fees and expenses incurred within investments in investee
pools and other collective investment vehicles, disclosed separately
for each investment tier;
(v) Incentive fees and any disproportionate share of profits
allocated to the commodity pool operator, i.e., any right of the
commodity pool operator to receive a greater than pro rata share of the
pool's profits, based on the percentage of capital contributions made
by the commodity pool operator.
(vi) Commissions or other benefits, including trailing commissions
paid or that may be paid or accrue, directly or indirectly, to any
person in connection with the solicitation of participations in the
pool; and
(vii) Professional and general administrative fees and expenses,
including legal and accounting fees and office supplies expenses;
(viii) Organizational and offering expenses;
(ix) Clearance fees and fees paid to national exchanges and self-
regulatory organizations;
(x) For limited risk pools, any costs of providing the limitation
on risk as referred to in paragraph (o)(3) of this section; and
(xi) Any other fee or expense.
(3) Where any expense, fee or commission is determined by reference
to a base amount including, but not limited to, ``net assets,'' ``gross
profits,'' ``net profits,'' or ``net gains,'' the pool operator must
specifically explain how such base amount will be calculated.
(4) Where any expense, fee or commission is based on an increase in
the value of the pool, the pool operator must specify how the increase
is calculated, the period of time during which the increase is
calculated, the expense, fee or commission to be charged at the end of
that period and the value of the pool at which payment of the expense,
fee or commission commences.
(5) Where any expense, fee or commission of the pool has been paid
or is to be paid by a person other than the pool, the pool operator
must disclose the nature and amount thereof and the person who paid or
who is expected to pay it.
(6) The pool operator must provide, in a tabular format, an
analysis setting forth how the break-even point for the pool was
calculated. The analysis must include all fees, expenses and
commissions of the pool, as set forth in Sec. 4.24(i)(2).
(j) Conflicts of Interest. (1) A full description of any actual or
potential conflicts of interest regarding any aspect of the pool on the
part of:
(i) The commodity pool operator, the pool's trading manager, if
any, any commodity trading advisor allocated or intended to be
allocated at least ten percent of the pool's aggregate initial margin
and premiums for futures and commodity option contracts and the
commodity pool operator of any investee pool allocated or intended to
be allocated at least ten percent of the assets of the pool;
(ii) Any principal of the foregoing; and
(iii) Any person providing services to the pool or soliciting
participants for the pool.
(2) Included in the description of such conflicts shall be any
arrangement whereby a person may benefit, directly or indirectly, from
the maintenance of the pool's account with the futures commission
merchant or from the introduction of the pool's account to a futures
commission merchant by an introducing broker (such as payment for order
flow or soft dollar arrangements) or from an investment of pool assets
in investee pools or other investments.
(k) Related party transactions. A full description, including a
discussion of the costs thereof to the pool, of any material
transactions or arrangements between the pool and any person affiliated
with a person providing services to the pool for which there is no
publicly disseminated price.
(l) Litigation. (1) Subject to the provisions of paragraph (l)(2)
of this section, any material administrative, civil or criminal action,
whether pending or concluded, within five years preceding the date of
the document, against any of the following persons, except a concluded
action that resulted in an adjudication on the merits in favor of such
person:
(i) The commodity pool operator, the pool's trading manager, if
any, the pool's major commodity trading advisors and the operators of
the pool's major investee pools;
(ii) Any principal of the foregoing;
(iii) The pool's futures commission merchants and introducing
brokers, if any.
(2) With respect to futures commission merchants and introducing
brokers, an action will be considered material if:
(i) The action would be required to be disclosed in the notes to
the futures commission merchant's or introducing broker's financial
statements prepared pursuant to generally accepted accounting
principles;
(ii) The action was brought by the Commission, Provided, however,
That a concluded action that did not result in fines exceeding $50,000
need not be disclosed unless it involved allegations of fraud or other
willful misconduct; or
(iii) The action was brought by any other federal or state
regulatory agency, or by a self-regulatory organization, domestic or
foreign, and involved allegations of fraud or other willful misconduct.
(m) Trading for Own Account. If the commodity pool operator, the
pool's trading manager, any of the pool's commodity trading advisors or
any principal thereof trades or intends to trade commodity interests
for its own account, the pool operator must disclose whether
participants will be permitted to inspect the records of such person's
trades and any written policies related to such trading.
(n) Performance disclosures as set forth in Sec. 4.25.
(o) Limited risk pools. If the pool is a limited risk pool, as
defined in Sec. 4.10(i) the commodity pool operator must:
(1) Describe the nature of the limitation on risk intended to be
provided, the manner by which such risk limitation will be achieved,
including sources of funding, and what conditions must be satisfied for
participants to receive the benefits of the risk limitation;
(2) Specify when the limitation on risk becomes operative; and
(3) Disclose, in the break-even analysis required by
Sec. 4.24(i)(6), the costs of purchasing and carrying the assets to
fund the limitation on risk, expressed as a percentage of the price of
a unit of participation.
(p) Transferability and redemption. (1) A complete description of
any restrictions upon the transferability of a participant's interest
in the pool; and
(2) A complete description of the manner in which a participant may
redeem its interest in the pool. That description must specify:
(i) How the redemption value of a participant's interest will be
calculated;
(ii) The conditions under which a participant may redeem its
interest, including the cost associated therewith, the terms of any
notification required and the time between the request for redemption
and payment;
(iii) Any restrictions on the redemption of a participant's
interest, including any restrictions associated with the pool's
investments; and
(iv) Any liquidity risks relative to the pool's redemption
capabilities.
(q) Liability of pool participants. The extent to which a
participant may be held liable for obligations of the pool in excess of
the funds contributed by the participant for the purchase of an
interest in the pool.
(r) Distribution of profits and taxation. (1) The pool's policies
with respect to the payment of distributions from profits or capital
and the frequency of such payments; and
The Federal income tax effects of such payments for a participant,
including a discussion of the Federal income tax laws applicable to the
form of organization of the pool and to such payments therefrom. If a
pool is specifically structured to accomplish certain Federal income
tax objectives, the commodity pool operator must explain those
objectives, the manner in which they will be achieved and any risks
relative thereto.
(s) Inception of trading and other information. (1) The minimum
aggregate subscriptions that will be necessary for the pool to commence
trading commodity interests;
(2) The minimum and maximum aggregate subscriptions that may be
contributed to the pool;
(3) The maximum period of time for which the pool will hold funds
prior to the commencement of trading commodity interests;
(4) The disposition of funds received if the pool does not receive
the necessary amount to commence trading, including the period of time
within which the disposition will be made; and
(5) Where the pool operator will deposit funds received prior to
the commencement of trading by the pool, and a statement as to whom any
income from such deposits will be paid.
(t) Ownership in pool. The extent of any ownership or beneficial
interest in the pool held by:
(1) The commodity pool operator;
(2) The pool's trading manager;
(3) The pool's major commodity trading advisors and the operators
of the pool's major investee pools; and
(4) Any principal of the foregoing.
(u) Reporting to pool participants. A statement that the commodity
pool operator must provide all participants with monthly or quarterly
(whichever applies) statements of account and with an annual report
containing financial statements certified by an independent public
accountant.
(v) Voluntary information. If any information, other than that
required by the Commission, the antifraud provisions of the Act, or any
federal or state securities laws and regulations, is provided, such
information:
(1) May not be misleading in content or presentation or
inconsistent with required disclosures;
(2) Shall be subject to the antifraud provisions of the Act and the
regulations thereunder and to rules regarding the use of promotional
material promulgated by a registered futures association, pursuant to
section 17(j) of the Act; and
(3) May only appear following the related required disclosures,
unless otherwise specified in this rule.
(w) Material information. This section does not relieve a commodity
pool operator from any obligation under the Act or the regulations
thereunder, including the obligation to disclose all material
information to existing or prospective pool participants even if the
information is not specifically required by this section.
Sec. 4.25 Performance disclosures.
(a) General principles and definitions. (1)(i) Capsule Performance:
Unless otherwise specified, the disclosure of the performance of a pool
must be net of any fees, expenses or allocations to the commodity pool
operator and include the following information.
(A) The name of the pool;
(B) A statement as to whether the pool is:
(1) Privately offered pursuant to 15 U.S.C. 4(2) of the Securities
Act of 1933;
(2) A multi-advisor pool as defined in Sec. 4.10(h); and
(3) A limited risk pool as defined in 4.10(i);
(C) The date of inception of trading;
(D) The aggregate gross capital subscriptions to the pool;
(E) The pool's current net asset value;
(F) The largest monthly draw-down, during the most recent five
calendar years and year-to-date, expressed as a percentage of pool net
asset value; the month and year of the draw-down must be specified.
(G) The worst continuous peak-to-valley draw-down during the most
recent five calendar years and year-to-date, expressed as a percentage
of pool net asset value, indicating the months and year of the draw-
down (for example, a peak-to-valley draw-down of ``4 to 8-91/25%''
means that the peak-to-valley draw-down lasted from April to August of
1991 and resulted in a twenty-five percent cumulative draw-down;) and
(H) The annual and year-to-date rate of return for the pool,
computed on a compounded monthly basis, except that performance of the
pool offered must include monthly rates of return.
(ii) Unless otherwise specified, the performance of accounts must
include:
(A) The name of the commodity trading advisor or other person
trading the account and the name of the trading program;
(B) The date on which the commodity trading advisor began trading
client accounts and the date when client funds began being traded
pursuant to the trading program;
(C) The number of accounts directed by the commodity trading
advisor pursuant to the trading program specified as of the date of the
disclosure document;
(D) The total assets under the management of the commodity trading
advisor and in the trading program specified, as of the date of the
disclosure document;
(E) The largest monthly draw-down for the trading program specified
during the most recent five calendar year and year-to-date expressed as
a percentage of client funds. The month and year of the draw-down must
be specified;
(F) The worst ever continuous peak-to-valley draw-down in for the
trading program specified during the most recent five calendar year and
year-to-date, indicating the months and year of the draw-down,
expressed as a percentage of net asset value (for example, a peak-to-
valley draw-down of ``4 to 8-91/25%'' means that the peak-to-valley
draw-down lasted from April to August of 1991 and resulted in a twenty-
five percent cumulative draw-down;) and
(G) The annual and year-to-date rate-of-return for the program
specified, computed on a compounded monthly basis.
(2) The performance of the pool offered must be identified as such
and separately presented first and its rate of return must be stated in
monthly increments.
(3) With respect to pools other than the pool offered for which
performance is required to be presented under this section:
(i) Pools of the same class as the pool offered must be presented
following the performance of the pool offered, on a pool by pool basis.
(ii) Pools of a different class must be presented less prominently
and, unless such presentation would be misleading, may be presented in
composite form; Provided, That the disclosure document must disclose
how the composite was developed and that pools of different classes may
not be presented in a composite. The commodity pool operator must be
prepared to justify the inclusion in a composite of the pools contained
therein.
(iii) For the purpose of Sec. 4.25(3)(ii), without limitation, the
following shall be considered pools of different classes: Pools
privately offered pursuant to Regulation D of the Securities Act and
public offerings; pools of materially different leverages; limited and
non-limited risk pools; pools using different trading programs; and
multi-advisor pools as defined in Sec. 4.10(h) and non-multi-advisor
pools.
(iv) Material differences among the pools for which past
performance is disclosed must be described.
(4) The past performance of accounts required to be presented under
this section must be presented on a program by program basis using the
format set forth in Sec. 4.25(a)(1)(ii).
(5) The disclosure document must indicate whether the pool offered
will use any of the trading programs for which past performance is
presented.
(6) All past performance presented in a disclosure document,
including voluntarily presented performance, must be calculated in
accordance with generally accepted accounting principles as specified
below or by a method otherwise approved by the Commission. All
performance data presented in a disclosure document must be current as
of a date not more than three months preceding the date of the
document. The commodity pool operator or commodity trading advisor must
maintain all supporting documents necessary to substantiate such
calculations, in accordance with Sec. 1.31.
(i) The beginning net asset value for the period, which shall be
the same as the previous period's ending net asset value;
(ii) All additions, whether voluntary or involuntary, during the
period;
(iii) All withdrawals and redemptions, whether voluntary or
involuntary, during the period;
(iv) The net performance for the period, which shall represent the
change in the net asset value net of additions, withdrawals, and
redemptions;
(v) The ending net asset value for the period, which shall
represent the beginning net asset value plus or minus additions,
withdrawals, redemptions and net performance;
(vi) The rate of return for the period, which shall be calculated
by dividing the net performance by the beginning net asset value or by
a method otherwise approved by the Commission; and
(vii) The number of units outstanding at the end of the period, if
applicable.
(7) All required performance information must be presented for the
most recent five calendar years and year-to-date or for its entire
duration, if less than five years.
(8) Adverse performance: Where presentation of adverse performance
is required hereunder, adverse performance means any annual return of
one hundred basis points less than the ninety day Treasury Bill rate on
December 31 of the calendar year in which the performance occurred or
any termination of a pool pursuant to a loss termination provision. To
disclose adverse performance, the pool operator must indicate the year
in which it occurred, the annual rate of return for that year, the
commodity trading advisor or commodity pool operator responsible for
the performance and the capacity of such person in respect of the pool
being offered.
(9) The performance of any pool or account in which the pool
operator, trading manager, commodity trading advisor or any principal
thereof, or any person providing services to the pool owns or controls
fifty percent or more of the beneficial interest shall not be included
in a disclosure document unless such performance is prominently labeled
as proprietary and is set forth separately after all required
disclosures.
(10) Any past performance presentation, whether required or
voluntarily provided, must be preceded by the following statement,
prominently displayed:
PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE.
(b) Pools which have traded commodity interests for three years or
more with no fewer than fifteen participants unaffiliated with the
commodity pool operator and in which no more than ten percent of the
assets were contributed by the commodity pool operator. The pool
operator must disclose the performance of the pool offered, as set
forth in Sec. 4.25(a)(1)(i) (C) through (H).
(c) Other pools. (1)(i) The pool operator must disclose the
performance of the pool offered, as set forth in Sec. 4.25(a)(1)(i) (C)
through (H).
(ii) If applicable, the pool operator must prominently display the
following statement:
THIS POOL HAS NOT COMMENCED TRADING AND DOES NOT HAVE ANY
PERFORMANCE HISTORY.
(2) (i) The pool operator must disclose the performance of each
other pool operated and each other account traded by the pool operator
or, if the pool has a trading manager, by the trading manager.
(ii) If the pool operator, or if applicable, the trading manager,
has less than a three-year history in trading pools with no fewer than
fifteen participants unaffiliated with the pool operator and in which
no more than ten percent of the assets were contributed by the
commodity pool operator, the pool operator must also disclose the
performance of each other pool operated and each other account traded,
by each trading principal of the pool operator or the trading manager,
if applicable.
(iii) If neither the pool operator or trading manager, if
applicable, nor any of its trading principals has operated any other
pools or traded any other accounts during the prescribed period, the
pool operator must prominently display the following statement:
NEITHER THIS POOL OPERATOR (TRADING MANAGER, if applicable) NOR
ANY OF ITS TRADING PRINCIPALS HAS PREVIOUSLY OPERATED ANY OTHER
POOLS OR TRADED ANY OTHER ACCOUNTS;
(3)(i) The pool operator must disclose the performance of any
accounts (including pools) directed by any major commodity trading
advisor and of any major investee pool.
(ii) If a major commodity trading advisor or major investee pool
has no prior performance history, the pool operator must prominently
display the following statement(s), as applicable:
(name of the major commodity trading advisor), A COMMODITY
TRADING ADVISOR THAT HAS DISCRETIONARY AUTHORITY OVER (percentage of
the pool's aggregate initial margin and premiums for futures and
commodity option contracts allocated to that trading advisor)
PERCENT OF THE POOL'S DIRECT FUTURES AND COMMODITY OPTION TRADING
HAS NOT PREVIOUSLY DIRECTED ANY ACCOUNTS; and
(name of the major investee pool), AN INVESTEE POOL THAT IS
ALLOCATED (percentage of the pool assets allocated to that investee
pool) PERCENT OF THE POOL'S ASSETS HAS NOT COMMENCED TRADING.
(iii) Unless this performance is otherwise required to be
disclosed, the pool operator must indicate, as set forth in
Sec. 4.25(a)(8), any adverse performance for any account (including
pools) directed or operated by the pool operator, any trading principal
of the pool operator or trading manager, any commodity trading advisor
allocated at least ten percent of the pool's aggregate initial margin
and premiums for futures and commodity option contracts and for any
investee pool allocated at least ten percent of the pool's assets. In
addition, if a major commodity trading advisor or major investee pool
has no prior operating history, the pool operator must indicate any
adverse performance for any account (including pools) directed or
operated by any trading principal of that advisor or of the commodity
pool operator of the investee pool. In lieu of giving an indication of
adverse performance, the commodity pool operator may provide capsule
performance disclosure as set forth in Sec. 4.25(a)(1).
Sec. 4.26 Use, amendment and filing of disclosure document.
(a)(1) Subject to paragraph (c) of this section, all information
contained in the disclosure document must be current as of the date of
the document; provided, however, That performance information may be
current as of a date not more than three months prior to the date of
the document.
(2) No commodity pool operator may use a disclosure document dated
more than nine months prior to the date of its use.
(b) The commodity pool operator must attach to the disclosure
document the most current Account Statement and Annual Report for the
pool required to be distributed in accordance with Sec. 4.22.
(c)(1) If the commodity pool operator knows or should know that the
disclosure document is materially inaccurate or incomplete in any
respect, it must correct that defect and must distribute the correction
to:
(i) All existing pool participants within 21 calendar days of the
date upon which the pool operator first knows or has reason to know of
the defect; and
(ii) Each previously solicited prospective pool participant prior
to accepting or receiving funds, securities or other property from any
such prospective participant. The pool operator may furnish the
correction by way of an amended document, a sticker on the document, or
other similar means.
(2) The pool operator may not use the document until such
correction has been made.
(d) Except as provided by Sec. 4.8:
(1) The commodity pool operator must file with the Commission two
copies of the disclosure document for each pool that it operates or
that it intends to operate not less than 21 calendar days prior to the
date the pool operator first intends to deliver the document to a
prospective participant in the pool; and
(2) The commodity pool operator must file with the Commission two
copies of all subsequent amendments to the disclosure document for each
pool that it operates or that it intends to operate within 21 calendar
days of the date upon which the pool operator first knows or has reason
to know of the defect requiring the amendment.
10. Section 4.31 is proposed to be revised to read as follows:
Sec. 4.31 Required delivery of disclosure document to prospective
clients.
(a) No commodity trading advisor registered or required to be
registered under the Act may solicit a prospective client, or enter
into an agreement with a prospective client to direct the client's
commodity interest account or to guide the client's commodity interest
trading by means of a systematic program that recommends specific
transactions, unless the commodity trading advisor, at or before the
time it engages in the solicitation or enters into the agreement
(whichever is earlier), delivers or causes to be delivered to the
prospective client a disclosure document for the trading program
pursuant to which the trading advisor seeks to direct the client's
account or to guide the client's trading, containing the information
set forth in Secs. 4.33 and 4.34.
(b) The commodity trading advisor may not enter into an agreement
with a prospective client to direct the client's commodity interest
account or to guide the client's commodity interest trading unless the
trading advisor first receives from the prospective client an
acknowledgment signed and dated by the prospective client stating that
the client received a disclosure document for the trading program
pursuant to which the trading advisor will direct his account or will
guide his trading.
11. Section 4.32 is proposed to be amended by revising paragraph
(a)(2) to read as follows:
Sec. 4.32 Recordkeeping.
* * * * *
(a) * * *
(2) The acknowledgement specified in Sec. 4.31(b).
* * * * *
12. Sections 4.33, 4.34 and 4.35 are proposed to be added as
follows:
Sec. 4.33 General disclosures required.
Except as otherwise provided herein, a disclosure document must
include the following information.
(a) Cautionary statement. The following Cautionary Statement, must
be prominently displayed on the cover page of the disclosure document:
THE COMMODITY FUTURES TRADING COMMISSION HAS NOT PASSED UPON THE
MERITS OF PARTICIPATING IN THIS TRADING PROGRAM NOR HAS THE
COMMISSION PASSED ON THE ADEQUACY OR ACCURACY OF THIS DISCLOSURE
DOCUMENT.
(b) Risk disclosure statement. (1) The following Risk Disclosure
Statement must be prominently displayed immediately following any
disclosures required to appear on the cover page of the disclosure
document as provided by the Commission or any applicable federal or
state securities laws and regulations:
RISK DISCLOSURE STATEMENT
THE RISK OF LOSS IN TRADING COMMODITIES CAN BE SUBSTANTIAL. YOU
SHOULD THEREFORE CAREFULLY CONSIDER WHETHER SUCH TRADING IS SUITABLE
FOR YOU IN LIGHT OF YOUR FINANCIAL CONDITION. IN CONSIDERING WHETHER
TO TRADE OR TO AUTHORIZE SOMEONE ELSE TO TRADE FOR YOU, YOU SHOULD
BE AWARE OF THE FOLLOWING:
IF YOU PURCHASE A COMMODITY OPTION YOU MAY SUSTAIN A TOTAL LOSS
OF THE PREMIUM AND OF ALL TRANSACTION COSTS.
IF YOU PURCHASE OR SELL A COMMODITY FUTURE OR SELL A COMMODITY
OPTION YOU MAY SUSTAIN A TOTAL LOSS OF THE INITIAL MARGIN FUNDS AND
ANY ADDITIONAL FUNDS THAT YOU DEPOSIT WITH YOUR BROKER TO ESTABLISH
OR MAINTAIN YOUR POSITION. IF THE MARKET MOVES AGAINST YOUR
POSITION, YOU MAY BE CALLED UPON BY YOUR BROKER TO DEPOSIT A
SUBSTANTIAL AMOUNT OF ADDITIONAL MARGIN FUNDS, ON SHORT NOTICE, IN
ORDER TO MAINTAIN YOUR POSITION. IF YOU DO NOT PROVIDE THE REQUESTED
FUNDS WITHIN THE PRESCRIBED TIME, YOUR POSITION MAY BE LIQUIDATED AT
A LOSS, AND YOU WILL BE LIABLE FOR ANY RESULTING DEFICIT IN YOUR
ACCOUNT.
UNDER CERTAIN MARKET CONDITIONS, YOU MAY FIND IT DIFFICULT OR
IMPOSSIBLE TO LIQUIDATE A POSITION. THIS CAN OCCUR, FOR EXAMPLE,
WHEN THE MARKET MAKES A ``LIMIT MOVE.''
THE PLACEMENT OF CONTINGENT ORDERS BY YOU OR YOUR TRADING
ADVISOR, SUCH AS A ``STOP-LOSS'' OR ``STOP-LIMIT'' ORDER, WILL NOT
NECESSARILY LIMIT YOUR LOSSES TO THE INTENDED AMOUNTS, SINCE MARKET
CONDITIONS MAY MAKE IT IMPOSSIBLE TO EXECUTE SUCH ORDERS.
A ``SPREAD'' POSITION MAY NOT BE LESS RISKY THAN A SIMPLE
``LONG'' OR ``SHORT'' POSITION.
THE HIGH DEGREE OF LEVERAGE THAT IS OFTEN OBTAINABLE IN
COMMODITY TRADING CAN WORK AGAINST YOU AS WELL AS FOR YOU. THE USE
OF LEVERAGE CAN LEAD TO LARGE LOSSES AS WELL AS GAINS.
IN SOME CASES, MANAGED COMMODITY ACCOUNTS ARE SUBJECT TO
SUBSTANTIAL CHARGES FOR MANAGEMENT AND ADVISORY FEES. IT MAY BE
NECESSARY FOR THOSE ACCOUNTS THAT ARE SUBJECT TO THESE CHARGES TO
MAKE SUBSTANTIAL TRADING PROFITS TO AVOID DEPLETION OR EXHAUSTION OF
THEIR ASSETS. THIS DISCLOSURE DOCUMENT CONTAINS, AT PAGE (insert
page number), A COMPLETE DESCRIPTION OF EACH FEE TO BE CHARGED TO
YOUR ACCOUNT BY THE COMMODITY TRADING ADVISOR AND A STATEMENT OF THE
PERCENTAGE RETURN NECESSARY TO BREAK EVEN, THAT IS, TO RECOVER THE
AMOUNT OF YOUR INITIAL INVESTMENT, AT PAGE (insert page number).
THIS BRIEF STATEMENT CANNOT DISCLOSE ALL THE RISKS AND OTHER
SIGNIFICANT ASPECTS OF THE COMMODITY MARKETS. YOU SHOULD THEREFORE
CAREFULLY STUDY THIS DISCLOSURE DOCUMENT AND COMMODITY TRADING
BEFORE YOU TRADE, INCLUDING THE DESCRIPTION OF THE PRINCIPAL RISK
FACTORS OF THIS INVESTMENT, AT PAGE (insert page number).
(2) If the commodity trading advisor may trade foreign futures or
options contracts, the Risk Disclosure Statement must further state the
following:
YOU SHOULD ALSO BE AWARE THAT THIS COMMODITY TRADING ADVISOR MAY
ENGAGE IN TRADING FOREIGN FUTURES OR OPTIONS CONTRACTS. TRANSACTIONS
ON MARKETS LOCATED OUTSIDE THE UNITED STATES, INCLUDING MARKETS
FORMALLY LINKED TO A UNITED STATES MARKET MAY BE SUBJECT TO
REGULATIONS WHICH OFFER DIFFERENT OR DIMINISHED PROTECTION. FURTHER,
UNITED STATES REGULATORY AUTHORITIES MAY BE UNABLE TO COMPEL THE
ENFORCEMENT OF THE RULES OF REGULATORY AUTHORITIES OR MARKETS IN
NON-UNITED STATES JURISDICTIONS WHERE YOUR TRANSACTIONS MAY BE
EFFECTED. BEFORE YOU TRADE YOU SHOULD INQUIRE ABOUT ANY RULES
RELEVANT TO YOUR PARTICULAR CONTEMPLATED TRANSACTIONS AND ASK THE
FIRM WITH WHICH YOU INTEND TO TRADE FOR DETAILS ABOUT THE TYPES OF
REDRESS AVAILABLE IN BOTH YOUR LOCAL AND OTHER RELEVANT
JURISDICTIONS.
(3) If the commodity trading advisor is not also a registered
futures commission merchant, the trading advisor must make the
additional following statement in the Risk Disclosure Statement,
prominently disclosed as the last paragraph thereof:
THIS COMMODITY TRADING ADVISOR IS PROHIBITED BY LAW FROM
ACCEPTING FUNDS IN THE TRADING ADVISOR'S NAME FROM A CLIENT FOR
TRADING COMMODITY INTERESTS. YOU MUST PLACE ALL FUNDS FOR TRADING IN
THIS TRADING PROGRAM DIRECTLY WITH A FUTURES COMMISSION MERCHANT.
(c) Table of contents. A table of contents showing, by subject
matter, the location of the disclosures made in the disclosure document
must appear immediately following the Risk Disclosure Statement.
(d) Information required in the forepart of the document. (1) The
name, address of the main business office, main business telephone
number and form of organization of the commodity trading advisor. If
the mailing address of the main business office is a post office box
number or is not within the United States, the trading advisor must
state where its books and records will be kept and made available for
inspection; and
(2) The date when the disclosure document will first be used.
(e) The name of. (1) Each principal of the trading advisor;
(2) The futures commission merchant with which the commodity
trading advisor will require the client to maintain its account or, if
the client is free to choose the futures commission merchant with which
it will maintain its account, the commodity trading advisor must make a
statement to that effect; and
(3) The introducing broker through which the commodity trading
advisor will require the client to introduce its account or, if the
client is free to choose the introducing broker through which it will
introduce its account, the commodity trading advisor must make a
statement to that effect.
(f) Business background. (1) The business background, for the five
years preceding the date of the document, of:
(i) The commodity trading advisor; and
(ii) Each principal of the trading advisor who participates in
making trading or operational decisions for the trading advisor or
supervises persons so engaged.
(2) The trading advisor must include in the description of the
business background of each such person the name and main business of
that person's employers, business associations or business ventures and
the nature of the duties performed by such person for the employers or
in connection with the associations or ventures.
(g) Principal risk factors. As applicable, a discussion of the
principal risk factors of this trading program. This discussion must
include, without limitation, risks due to volatility, leverage, and
counterparty risks.
(h) Trading program. A description of the trading program. This
description shall include the types of commodity interests and other
interests the commodity trading advisor intends to trade, with a
description of any restrictions or limitations on such trading
established by the commodity trading advisor.
(i) Fees. A complete description of each fee which the commodity
trading advisor will charge the client.
(1) Wherever possible, the trading advisor must specify the dollar
amount of each such fee.
(2) Where any fee is determined by reference to a base amount
including, but not limited to, ``net assets,'' ``gross profits,'' ``net
profits'' or ``net gains,'' the trading advisor must specifically
explain how such base amount will be calculated.
(3) Where any fee is based on an increase in the value of the
client's commodity interest account, the trading advisor must specify
how that increase is calculated, the period of time during which the
increase is calculated, the fee to be charged at the end of that period
and the value of the account at which payment of the fee commences.
(j) Conflicts of interest. (1) A full description of any actual or
potential conflicts of interest regarding any aspect of the trading
program on the part of:
(i) The commodity trading advisor;
(ii) Any futures commission merchant with which the client will be
required to maintain its commodity interest account;
(iii) Any introducing broker through which the client will be
required to introduce its account to a futures commission merchant.
(2) Any principal of the foregoing.
(k) Litigation. (1) Subject to the provisions of paragraph (k)(2)
of this section, any material administrative, civil or criminal action,
whether pending or concluded, within five years preceding the date of
the document, against any of the following persons, except a concluded
action that resulted in an adjudication on the merits in favor of such
person:
(i) The commodity trading advisor and any principal thereof:
(ii) The futures commission merchant with which the client will be
required to maintain its commodity interest account; and
(iii) The introducing broker through which the client will be
required to introduce its account to the futures commission merchant.
(2) With respect to the futures commission merchant and the
introducing broker, an action will be considered material if:
(i) The action would be required to be disclosed in the notes to
the futures commission merchant's or introducing broker's financial
statements prepared pursuant to generally accepted accounting
principles;
(ii) The action was brought by the Commission, Provided, however,
That a concluded action that did not result in fines exceeding $50,000
need not be disclosed unless it involved allegations of fraud or
willful misconduct; or
(iii) The action was brought by any other federal or state
regulatory agency, or by a self-regulatory organization, domestic or
foreign, and involves allegations of fraud or other willful misconduct.
(l) Trading for own account. If the commodity trading advisor or
any principal thereof trades or intends to trade commodity interests
for its own account, the commodity trading advisor must disclose
whether clients will be permitted to inspect the records of such
person's trading and any written policies related to such trading.
(m) Performance disclosures as set forth in Sec. 4.34
(n) Voluntary Information. If any information, other than that
required by the Commission, the antifraud provisions of the Act, or any
federal or state securities laws and regulations, is provided, such
information:
(1) May not be misleading in content or presentation or
inconsistent with the required disclosures;
(2) Shall be subject to the antifraud provisions of the Act and the
regulations thereunder, and to rules regarding the use of promotional
material promulgated by a registered futures association, pursuant to
section 17(j) of the Act; and
(3) May only appear following the related required disclosures,
unless otherwise specified.
(o) Material information. This section does not relieve a commodity
trading advisor from any obligation under the Act or the regulations
thereunder, including the obligation to disclose all material
information to existing or prospective clients even if the information
is not specifically required by this section.
Sec. 4.34 Performance disclosures.
(a) General principles. (1) The performance of the program offered
must be displayed first, calculated in accordance with generally
accepted accounting principles as specified below or by a method
otherwise approved by the Commission, in a table showing at least
quarterly the following information.
(i) The beginning net asset value for the period, which shall
represent the previous period's ending net asset value;
(ii) All additions, whether voluntary or involuntary, during the
period;
(iii) All withdrawals and redemptions, whether voluntary or
involuntary, during the period;
(iv) The net performance for the period, which shall represent the
change in the net asset value net of additions, withdrawals,
redemptions, fees and expenses;
(v) The ending net asset value for the period, which shall
represent the beginning net asset value plus or minus additions,
withdrawals and redemptions, and net performance;
(vi) The rate of return for the period, computed on a compounded
monthly basis, which shall be calculated by dividing the net
performance by the beginning net asset value;
(2) The performance of all other programs must be presented as set
forth in Sec. 4.25(a)(1)(ii)(C) through (G) and must be based on the
information set forth in Sec. 4.34(a)(1), and calculated on a current
basis. The commodity trading advisor must maintain all supporting
documents necessary to substantiate such calculation in accordance with
Sec. 1.31.
(3) All performance information presented in the disclosure
document must be current as of a date not more than three months
preceding the date of the document.
(4) All required performance information must be presented for the
most recent five calendar years and year-to-date or for its entire
duration, if less than five years.
(5) Unless such presentation would be misleading, the performance
of accounts traded pursuant to the same trading program may be
presented in a single composite table provided that the trading advisor
describes how each composite was calculated. The term trading program
means a trading strategy differentiated from others by commodity
trading methodology, degree of risk or degree of leverage.
(6) The performance of any account in which the commodity trading
advisor, any of its principals or any person providing services to the
pool owns or controls fifty percent or more of the beneficial interests
shall not be included in a disclosure document unless such performance
is prominently labeled as proprietary and set forth separately after
all required disclosures.
(7) Any past performance presentation, whether required or
voluntarily provided, must be preceded with the following statement,
prominently displayed:
PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE.
(b) Performance to be disclosed. The commodity trading advisor must
disclose the actual performance of all accounts directed by the
commodity trading advisor and by each of its trading principals;
Provided, however, That if the trading advisor or its trading
principals previously have not directed any accounts, the trading
advisor must prominently disclose this fact with one of the following
statements, as applicable:
(1) THIS TRADING ADVISOR PREVIOUSLY HAS NOT DIRECTED ANY
ACCOUNTS; or
(2) NONE OF THE TRADING PRINCIPALS OF THIS TRADING ADVISOR HAS
PREVIOUSLY DIRECTED ANY ACCOUNTS; or
(3) NEITHER THIS TRADING ADVISOR NOR ITS TRADING PRINCIPALS HAVE
PREVIOUSLY DIRECTED ANY ACCOUNTS.
Sec. 4.35 Use, amendment and filing of disclosure document.
(a) Subject to paragraph (c) of this section, all information
contained in the disclosure document must be current as of the date of
the document; Provided, however, That performance information must be
current as of a date not more than three months preceding the date of
the document.
(b) No commodity trading advisor may use a disclosure document
dated more than nine months prior to the date of its use.
(c)(1) If the commodity trading advisor knows or should know that
the disclosure document is materially inaccurate or incomplete in any
respect, it must correct that defect and must distribute the correction
to:
(i) All existing clients in the trading program within 21 calendar
days of the date upon which the trading advisor first knows or has
reason to know of the defect; and
(ii) Each previously solicited prospective client for the trading
program prior to entering into an agreement to direct or to guide such
prospective client's commodity interest account pursuant to the
program. The trading advisor may furnish the correction by way of an
amended document, a sticker on the document, or other similar means.
(2) The trading advisor may not use the document until such
correction is made.
(d)(1) The commodity trading advisor must file with the Commission
two copies of the disclosure document for each trading program that it
offers or that it intends to offer not less than 21 calendar days prior
to the date the trading advisor first intends to deliver the document
to a prospective client in the trading program.
(2) The commodity trading advisor must file with the Commission two
copies of all subsequent amendments to the disclosure document for each
trading program that it offers or that it intends to offer within 21
calendar days of the date upon which the trading advisor first knows or
has reason to know of the defect requiring the amendment.
PART 30--FOREIGN FUTURES AND FOREIGN OPTIONS TRANSACTIONS
13. The authority citation for part 30 continues to read as
follows:
Authority: 7 U.S.C. 1a, 2, 4, 6, 6c, and 12a.
14. Section 30.6 is proposed to be amended by revising paragraphs
(b)(1) and (b)(2) to read as follows:
Sec. 30.6 Disclosure.
* * * * *
(b) Commodity pool operators and commodity trading advisors. (1) No
commodity pool operator registered or required to be registered under
this part, or exempt from registration pursuant to Sec. 30.5 of this
part, may, directly or indirectly, solicit, accept or receive funds,
securities or other property from a prospective participant in a
foreign pool that it operates or that it intends to operate or, in the
case of a commodity trading advisor, no commodity trading advisor
registered or required to be registered under this part, or exempt from
registration pursuant to Sec. 30.5 of this part, may solicit or enter
into an agreement with a prospective client to direct or to guide the
client's foreign commodity interest trading by means of a systematic
program that recommends specific transactions, unless the commodity
pool operator or commodity trading advisor, at or before the time it
engages in such activities, first provides each prospective participant
or client with the Risk Disclosure Statement set forth in Sec. 4.24(b)
in the case of a commodity pool operator or Sec. 4.33(b) in the case of
a commodity trading advisor.
(2) The disclosure statement required to be provided in paragraph
(b)(1) of this section may be given as a separate document or, if part
of the disclosure document required to be furnished customers or
potential customers pursuant to Sec. 4.21 or Sec. 4.31 of this chapter,
must be prominently disclosed immediately following any disclosures
required to appear on the cover page of the disclosure document as
provided by the Commission or any applicable federal or state
securities laws and regulations.
* * * * *
PART 150--LIMITS ON POSITIONS
15. The authority citation for part 150 continues to read as
follows:
Authority: 7 U.S.C. 6a, 6c and 12a(5) (1988).
16. Section 150.3 is proposed to be amended by revising paragraph
(a)(4)(i)(D) to read as follows:
Sec. 150.3 Exemptions.
(a) * * *
(4) * * *
(i) * * *
(D) Solicit funds for such trading by separate disclosure documents
that meet the standards of Sec. 4.24 or Sec. 4.33 of this chapter, as
applicable, where such disclosure documents are required under part 4
of this chapter.
* * * * *
Issued in Washington, DC, on May 5, 1994, by the Commission.
Jean A. Webb,
Secretary of the Commission.
[FR Doc. 94-11380 Filed 5-13-94; 8:45 am]
BILLING CODE 6351-01-P
