Comment Text:
i0-001
COMMENT
CL-05603
From:
Sent:
To:
Subject:
Attach:
Lydia Lorenz
Friday, February 26, 2010 4:55 PM
secretary
Regulation of Retail Forex
IBFX CFTC Comments 2-26-10.pdf
Dear Mr. David Stawick, Secretary:
Attached are comments submitted on behalf of Interbank FX in reference to Regulation of Retail Forex (RIN 3038-AC61).
Thankyou,
Lydia Lorenz
202-842-2345February 26, 20 ! 0
Mr. David Stawick, Secretary
C!xmnodity Futures Trading Conm-tission
1 !55 21
~
Street, N.W.
Washington, D.C. 20581
Re: RI.. ~ 3(~38-AC61
De,u" Mr. Stawick:
These comments are submitted on behalf of Interbank FX (IBFX). IBFX is an off-
exchange retail foreign currency broker whose pioneering efforts have created a unique
foreign exchange (forex) trading environment. Interbank FX has distinguished itself as
an industry leader with our unique Multibank Liquidity feed, proprietary trading tools
and service and focus on customer care. We were founded in 2001 by a group of foreign
exchange trading veterans who wanted to pioneer an alternative method of trading in the
forex markevplace. Our proprietary technology and distinctive approach to forex trading
allow our customers to execute directly from a streaming quote feed. [gFX is registered
with the National Futures Association (NFA) as a futures commission :merchant (FCM)
and Forex Dealer Member (FDM).
IBFX believes that sensible regulation, including both self-regulation through the NFA
and federal oversight through the Commodity Futures Trading Commission (CFTC), is
sound public policy and in the interest of our customers and our industry. Our company
strongly supported the establishment by Congress of a separate regulatory category for
retail forex dealers, strict capital standards for retail forex firms, and CFTC authority to
police against fraud and other abusive practices,
We also support most aspects of the r~ale proposed on January 20, 2010, by the cIq'C
(Commodity Futures Trading Commission. "Regulation of Off.-Excimnge Ret:ail Foreign
Exchange Transactions and lntern-~ediea'ies.")
~
Among ~he proposals that we support are
~:hose applicable to .--
Registration with the Ct-q'C a~d NFA;
Disclosure of relevant information to customers;
Record-keeping;
Fh~ancia.1 reporting; a~d
Mi~fimum capital
~ Federal Register
Vol, 75, No, 12, ppo 32824330
3165 E Mi rock r.)- Ste 200
*
Salt Lake .3itv, UT 84121
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801 93?.6800 ~, 866.468 3739
*
2i2 884 r609Mr. David Stawick
February 26~ 2(110
Page 2
IBFX strongly opposes one aspect of the proposed rule: a 10:1 limit on leverage that may
be offered to customers, i.e., a requirement that customers post a security deposit in cash
or other specified financial instruments equal to 10% of the notional value of a forex
transaction. We believe that this proposal .--
Is unnecessary to p:'otecl fetal1 investora because this goal is already aci~ieved
throagh rigorous capital requirements that will prevent fly-by-night operations
:from defrauding investors;
Will make retail forex trading in the United States uncompetitive and hence drive
retail business either offshore to venues that permit higher leverage, or to trading
venues not subject to the leverage requirement, including futures exchanges and
potentially hanks or other financial intermediaries not regulated by the CFTC;
Runs counter to the considered judgment of the NFA, which late last year began
to apply a 100:1 leverage limit, a level arrived at through an analysis of the
leverage requirements of U.S. futures exchanges and comparable developed-
country financial regulators;
Is inconsistent with the intent of Congress, which could have chosen to ban retail
forex trading but chose instead to regulate it. a decision that presupposes that
Congress intended that the industry could continue to exist: and
Is inconsistent with the Commodity Exchange Act's reqmrement
2
that the CFTC
"take the least anticompetitive means of achieving the objectives oF' the Act. in
that the proposed rule unfairly and unjustifiably favors on-exchange forex trading
even though customers in that trading venue can lose more than their initial
investment while retail forex customers cannot.
The Propased Limitation o,~ Leverage is Un~e~:essary
First, the leverage limitation is unnecessary to achieve customer protection. As Congress
recognized in the CFTC Reauthorization Act of 2008,
~
longstanding retail forex fraud
problems were overwhelmingly centered on poorly-capitalized boiler-rooms that operated
outside CFTC scrutiny because of the legal uncertainty as to whether they were subject to
the Commodity Exchange Act (the Act). Congress resolved this problem by giving the
CFTC clear authority over retail forex transactions regardless of whether various courts
considered them to be futures contracts or not; and by laying out, in the statute, specific
capital requirements for retail forex dealers. The NFA. and now the CFTC in its
proposed rule, have actually strengthened the capital requirements above the statutory
m~nimums by requiting additional capital when a firm's trading volume exceeds a certain
threshold.
~ 7 U.S.C. § 19(b).
~ P.L 110-2~6, i22 Star. 2189~CMr, L)avid Stawick
February 26, 2010
Page 3
Relatedly, the leverage limitation is also unnecessary to avoid systemic financial risk.
Congress and regulators alike consider that excessive leverage contributed to the
financial meltdown of 2008. However, this leverage occurred in the context of
institutional derivatives markets where many trillions of dollars in notional value changed
hands daily. The leverage also involved large financial institutions either explicitly or
implicitly backed up by the taxpayers, or otherwise considered "too big to fail." By
contrast, the retail forex markets involve customers who, by definition, are retail rather
than institutional investors, and no retail forex firm is large enough that anyone would
suggest the possibility of a taxpayer bailout. Indeed, the entire U.S. retail forex market is
estimated at $800 million in customer assets, and a little over $700 million in adjusted net
capital for the industry itself. These are not sums that pose any systemic risk in our
multi-trillion-dollar economy. (It might also be noted that tbrex instruments generally
were not among those that were implicated in the meltdown; rather, derivatives and other
instruments based on real estate and credit risk were most prominent in the debacle of
2007 and 2008.)
The Proposed Leverage Limits Will Make the U,S~ Retail Forex Industry
Uncompetitive
T~,day, retai! investors have a wider range of tradiag o-ppormni~:~es ~haa ever before,
ability of customers to trade on a vmiety of platfo~ns over ~;~e tmeme~ means tlt~at U.S.
regt~la~ors must b~ miad~u] o~' how comparable tra~saciion~ in similar developed-,cou~m:y
jarisdictio~s are regt~lated. C~,smmers can and will move their b~siness e~sewhere if
requirements to trade in the U.S. ~ue perceived as overly onerous~
Now, U.S. retail forex fi~vns provide a range of leverage to customers, but under NFA
rules 100:1 is the maximum allowed, and some firms offer this ievel. For the customer of
such a firm engaging in a forex transaction with a value of $5,000, the CFTC' s proposed
rule means that instead of posting a security deposit of $50, the customer must post $500.
One can easily understand that a change of this magnitude will cause investors to look for
alternatives. We believe that customer comments already publicly filed with the CFTC
make tNs clear,
It i~ no.: necessary to hyt~oi:hesize new trading venues i~. m~dition~d haven,s for offsihore
ba~ki~g ~r sim:i~ar ~ansact~oas. instead, investors need only locate firms operating i~ the
United Kingdom, w[~ere 200:1 ~everagc is typical. Prac~:ices h~ At~st~alia, Fra~ce and
Ge~any are simitar~
Thus, the regulators of these developed-country markets are content for customers to
enter into forex transactions with leverage twice that now permitted by the NFA, and
20
times
what would be allowed under the proposed rule, The NFA's leverage limitation
already constrains U.S. firms to some degree, but the CFTC's proposed rule would
simply make it untenable to conduct retail forex business in the United States.M~. David Stawick
February 26, 2010
Page 4
Business would necessarily :m:ig~ate offshore, ~.o non-.CFTC.-regulaed entities such as
~mtior..ai banks, or to trading ot~ designated contract me~'kets (futm'es exchau.ges), These
al'ter:~ative tra~.i.~g venues are available and, excep~ fbr fi~mres excha~ges, carmot be
regulated by the CIq?C. Thus, it is likely that ~he p.."oposed rule will have the ironic effect
of leaving the CFTC with less~ not more, regulatory control over retail forex trading.
The Propos~d Rule is Inco~sis{em: wi~:h N1;7~, Rules
The CFTC.? certainly is not constrained to abide by decisions made by the NFAo
Nevertheless, since the NFA only recently went through a rulemaking process on the very
subject of retail forex leverage, and since the CFTC accepted the resulting NFA rules, it
is quite strange that the CFTC largely ignored the NFA' s decision and logic in crafting its
proposed rule.
The NFA submitted its leverage requirements to the CFTC on February 23, 2009. i~
discussing its proposals, the NFA stated that it was revising its previous requirement for a
2% security deposit for major currencies down to 1%, in part because of positive
experience from permitting firms to offer 1% on a temporary basis; in part becanse of the
contemporaneous introduction of higher capital requirements for retail forex firms; and in
part because unlike futures exchanges, retail forex firms "use systems that liquidate
customer positions before they reach a negative balance ...,,4
This last poi~t bears out the wisdom of the NFA's approach. The self-regulatory agency
recognized that there :is a fundamental difference between security deposits in retail forex
trading a~d margins in on-exchange futures trading, even though both have some features
and purposes in common. A retail forex customer cannot normally lose more than his or
her initial investment because his or her account will be liquidated before its value
reaches zero. By contrast, margin calls in futures trading make it quite possible (and
even common) for an investor in futures contracts to lose more than his or her initial
h, vestment. Hence, the same degree of leverage poses less risk to an individual customer
trading fermi fore.x than to the same customer trading forex futures on an exchange.
The Proposed Leverage Limitations are Contrary to the Intent of Congress
The legislation passed by Ccmg!'e~;a in 2008 whici~ is ti~e basis of CFTC's present
rulemaking
~
contains not one word abot~.t iimiti~g leverage. To our knowledg< nothing
in the legislative history, hearing records or cow,tee reports expticit[y discusses the
prospect of limits on leverage. Thas, it is difficult to a~gue that in imposing a limitation
on leverage that will unquestio~mbly drive the re~ail ~Brex industry out ot the United
States, the C~'I-C is aimpiy fo!towi~g the will of Cong~vss,
~ Na*iona! Futures Association: Ferex Securit:,' Deposits - Proposed Amer~dments to N~aA Fi,~at~ciai
Requirements Section i 2 a~tt Interpretive Note Regarding Fore>: Transat:ti~ms. Con:e~pondence from NFA
to CIvl'C, Feb. 23~ 2.009.
s P.L. it0. 2~6,
~oc. cir.Mr,
David Stawick
February 26, 2010
Page 5
A limit
o~
leverage, in and of kseif,
nmy
be within :he CFIIC's authorits< But in taking
an action ttm~ is
all
hat guarameed m put U.S. :'e~:Nl forex firms out of business - and
their empbyees on the unemployment lines - the CFTC is clearly acting against lhe
inient of Congress,
The logic is simple. If Congress had wanted to ban this entire industry, it could have
done so by making all retail forex transactions illegal. That is not what Congress did.
Instead, Congress made all retail forex transactions
subject to regulation.
If Congress
feels that an industry needs to be regulated - a judgment with which, as already stated,
IBFX fully agrees - then Congress is necessarily also saying that it is satisfied for that
industry to exist. No public purpose is served in regulating a non-existent industry.
All the purposes of regulation become harder to achieve - if not impossible - once an
industry has been driven outside U.S. borders. The CFTC can offer little more than
words to investors defrauded by firms operating outside the United States, Capital
reqairements cannot be enforced against firms not subject to U.S. laws. Thus, the CFTC
is proposing to destroy an industry and eliminate the jobs associated with it, and in the
process will fail to achieve what Congress told the cormnission to do in the first place.
The Leverage Limitations Would Be AntioC~mpetitive
The most likely outcome of :he <.F I C ~. proposed limits on leverage would be to sm~d
existing business offshore~ However~ another possible outcome is ~hat a portion of the
business wili migrate to designated comract markets in the Uaited Siateso
To the extent that the CFTC foresees or desires this outcome, the coam3issio,~ should feel
obliged to defe:~d this proposed rule in the co:~text of Sec~ 15(b) of the Ac<
6
which
requires the least anti-.competitive means of achieving a given objective to be chosen.
The CI~FC's proposed role wouN certainly enh~mce the competitive position of futures
exchanges at the expense of retail lk)rex dealers.
Congress gave no evidence of such a~ anti-competitive intent in legislating Ct-q'C%
am:hoplty over ~etail forex ~radinm But m~der the CF FC s proposal, famres exchanges
~uld offer ~us~omer le~ erage perhaps twice as high as ~he levels permitted to retail
fore~ customers (t:sing the average exchange ma@ns ciied by NFA in ks rule
submission). This is anquestionabiy a compe~qti~ ~. ad ~antag~.. Yet ti~e CFTC has not
exp[ai~md why it desires to give ['umres exchanges a competiiive advantage over retail
forex dealers, if thai: is i~deed the Ct~TC's wish- and if it is no~, the commission should
reconsider the proposal in light of the competitive consequences.Mr. David Stawick
Fcbm~y 26, 2010
Page 6
The Solution is Regulation, Not Prohibition
iMost of the CF'TC's p:roposed ..',tile is sou~d. Indeed, these pa~s of the. rule presuppose
tlaat the~e will be a U.S. re~:ail forex hadm~try to be reg~la~ed. U~brtm~ately, if the
leverage limitations ~e adopted~ no sach industry is llkely to exist, ix~stead, mes~ if ~ot
al~ of ~e .~e~ail forex business wiil be dfive~i over'seas a~td the ~obs ilow ~ssocia~ed with
the retail %rex industry will follow. We do not believe that is flae C~C's intent. We are
certain it was not Congress's intern. Therefore, we implore the commission to reconsider
tNs ill-advised leverage li~fitatio~ az~d adopt a more se~tsible alter~iative tha~: pemfits the
total.1 ~brex industry to rema{n vtaNe-- and regt~iated --- it~ the United States.
~I'odd Crosland, President
