Comment Text:
i0-001
COMMENT
CL-08918
From:
Sent:
To:
Subject:
Attach:
Bart Mallon
Monday, March 22, 2010 10:52 PM
secretary
RIN 3038-AC61 (Comment Letter)
Mallon P.C. Final Forex Comment (03-22-10).pdf
Please see our attached comment.
Many thanks,
Bart Mallon, Esq.
Mallon P.C.
One Ferry Building I Suite 255 I San Francisco CA 94111
Tel: 415-868-5345 I Fax: 415-493-0154 I
[email protected]
http://www.hedgefu ndlawblog.comPIA L LO
Telephone: (,1115) 86g-5345
Facsimile: {415) 493-0154
VL4, EL ,:C2[RONIC MAIL
AND COURIER
March 22, 20 l 0
Mr. David Staw]ck
SecretaD
Commodity Futures Trading Commission
1155 21st Street, NW
Washington, DC 20581
Re: RequestJbr Comment on Proposed Regulation ojOgSExchange
Re~ai! Foreign £~change "lPausac~ions and Intermediaries
Dear Mr. Stavdck:
This letter is i~3 response to the request of the Commodib' Futures Trading Commission
(the "Commissio~f') i~ PdN 3038---AC61 (the "Release")
~
for comme~t on certain proposed regtdations
(the "Proposed Regulatior~s") under the Commodib" Exchange Act ("CEA")
~
as anaended by the CFTC
Reaathorization Act of 2008 (the "CRA").
:~
The Proposed Regulations as drafled wo~ld establish
requirements *br, among other things, registration, disclosure, recordkeeping, financial reporting,
mi,~irnum capital, and other operational standards with respect to retail off-excha~ge foreign currency
("forex") transaction s.
Matlon P.C. is a law' firm which :represents a substantia~ number of clients who are
domestic tbrex market participants and who would be directly affected by the Proposed RegMatiot~s. We
appreciate the oppommky to comment on the Proposed Regulations, especially considcrit~g that the
regulatio~s, if adopted as proposed, woMd significantly affect the business of many of onr clients. While
we have discussed these views with our clients, and they share many of the same views, the comments
expressed in this letter are o~r
Over~'iew ~f Proposed Retail Forex Regulati~r~s
The Proposed Regulatior~s would, among other things.. 6) require certain retail %rex
market participants to register with the Commission, (ii) require coumerparties dealing in retail forex to
increase the security deposit for forex transactions, (iii) estabfish certai~ net capital levels for ~'orex
counterparties, and (iv) require introducing brokers to retail forex transactions to operate pursuant to a
guarantee agrcemem with only one forex counterpart?i.
~ Regulation of' OfiCExcha.,~ge Retai[ Foreign Exchange Transactions a:~d Intermediaries, Commodity Exchange Act
Release RIN _0~8-AC61 75 Fed. Reg, 3281 (proposed January 20~ 2010) (to be codified at 17 C.F.R. pts. 1, 3, 4, 5,
10, 140, [45, I47, 160, a,d 166).
~ Commodity Exchange Act ~f 1936, ? [LS,C. § 1 et. aeq.
:~ Food, Conservation, and Energy Act of 2008, Pub, L, i 10-246, 122 Star 1651, 2189-2204 (2008),Letter to Mr. David Staw{ck
March
~ "~
2010
Page 2 of 7
The landscape in which the Proposed Regulations were developed is impommt. Prior to
the CRA, the Commission did not have aa explicit gra~t of.jurisdictiot~ over the of'i~exchange spot t~orex
markets
4
and %ere was, accordingly, little regulatory oversight og ce,~ain market participants. Without a
mandate to require registration off such market partbipams, run-of-the-mill common law {'ra~.~d
proliferated
5
as regt, lators were impotent to stop these scmns. While state laws were able to address many
of tl~ese cases after the {'act, the Commission sot~ght to regulate the indust
q
as a proactive mea~s to
prevent fraud. At the same time, many ~egitimate domestic fi)rex bt~sinesses sought ways to distinguish
themselves from the frat~dulent players in the industry by
~o]untarily t'egistering
with the C0mmissio,~ as
commodity pool operators ("CPOs"), commodity trading advisers ("CTAs"), introducing brokers (;'IBs
'~)
at~d futures com~ission merchants ('°FCMs'")o
~
These businesses, like many of the firms and individuals
who have responded to the Comrnissio~'s request fbr comments, fi.tl~y appreciate the impo~ant role that
regulatory bodies play in ';cleaning up': the industry and making sure that bad actors do not con@me to
tarnish the names of hard working individuals who t~ave he~ped to create a competitive and rob~st
industs¢ in the United States.
We agree with many of the Proposed Regolations and believe they se~we important
investor protection fimctior~s, however we are concerned that some of the Proposed Regulatiot~s will not
protect bvesmrs a~d will have a deleterious effect ot~ the United States fbrex industry. It is within this
context, and with the goal o~" helping to create a considered regulat.ory regime that emphasizes both
investor protection and the continued eco~omic viability of the domestic retail ibrex industry, we make
the foltowi~g comments.
.l_~_e_~istration
ofForex CPOs. CTAs at~d IBs
The Proposed Regulatior~s require persona to register wil-h the Commission as forex
CPOs, forex CTAs, and forex iBs, as appropriate] The Proposed Regulations also create a ~ew
registration category for retail tbreign exchange dealers (. RI LD.,: ) ,rod ~u.~n re 1([ Lt.., m ~u~,~ ~,.. ~, such
with the Commission.
s
Certain employees of the foreN~b~g re~istm~ls~
wot~/d
be required 1o rcgis/e~ with
the Commiss~o~ as associated persons ("APs"), as alipr~:~pria~:e:]
~
'~e re~iste~e~ fim~s slid APs w~;~u~d also
be required to become members of a registered futm'e'.~ assoc~.autx~ " h~ ~ d~tmon t<~ regis;ii~atlo~-~S. Pr¢:~posed
Regulation 5.4 would req~ire ce~ain disclosure, recordkeeping and reposing requiremems *~r tbrex
CPOs at, d
4 See generally Release at 325 (citing to, most impo~'tantly,
Z~;lene;
and
Erskine).
s See Release at 3286, n. 44 (Between December 2000 and September 2009, 114 ~orex-rela~ed enforcement actions
were brought by the Commission o~ behalf of more than 26,000 customers).
~ These ~e~s are defined in Sectio~ la
of the
CEA= Wi~.h res~ect to groups who engage in o~ly ~k~rex ~ansactions,
such ffKms will be defined under Proposed Regu]atkm 5.1, which makes reference back to Section I a of the CEA.
; Proposed Regulation 5~3(a)(2), Proposed Regub.tk~t~ 5.3(a)(3), and Proposed Regulation 5.3(a)(5).
~ Prhposed Regulation 5.1 (h)(1) and Proposed Regulation 5.3(a)(6).
9 See, e.g., Pro[~osed Regulat~o~ 5~3(a)(])([i) a~d 5.3(a)(2)(i~).
~roposeo Regulation
~ ~b4AL LO
Letter to Mr. David Stawick
March 22, 2010
Page 3 of 7
We broadly believe that requiring fbrex CPOs, CTAs, a~d iBs to register with the
Commission is reaso~able]
~
It is clear that the standards to operate as a Commission registered firm and
National Futures Associatio~ ("NFA') Member Firm are high. In order to complete registration, each firm
needs to designate at least one person as an APiPrh~pM~ a~d that
persneed~; to meet ce~,mi~
profic~e~cy reqmrements, ~ background checks, and olher investigatkm:~ ]!it(~ ~1i~ i:3erso~/~s fi~nes:~ :l:e
provide se~ces to customers.
~:~
Ot~ce registered, f~rex CPOs and CIA.s are ge:~erally requi~ed t<~ have
their disclosure doc~me~ts reviewed by the NFA prior to solid: ling ci.is!x}mers.
~',~
These measures pro~.qde
both the Commission a~d the NFA with ample oppommi), to review fim~s and individual applicants.
O~ce registered, Member Firms will be req~ired to hnpleme~t recordkeeping a~d compliance programs
under both Commission regalations and NFA Rules.
-~
in addition to aellaexamination and compliance
mandates, NFA Member Firms are subject to routine audit a~d the NFA has made it cle~ that it intends
to heavily monitor Member Firms involved in t~e retail l~rex " " ~ ~{'
.
mdust~. It is our belief the goregoing
measm-es are sui~icie~t to achieve t~e goal of i~westor protection wh~le remaini~g within with the
Comm~.~s~on s statutory duD' to tafil~ze the least anti-competitive means possible.
L~wer Leverage Req uh-emc~t
The heavily criticized Proposed Regulation 5.9 requires RFEDs at~d FCMs engaging in
retail f~.rex transactions to collect from the retail customer a sectMty deposit often percent of the ~mtional
valt~e of the transaction. The regvflation would a{so require the RFED or FCM to coltect an additional
security deposit or liquidate the positio,~ if the account value drops below the 10: l ]v The Release cites a
number of reasons for limiting leverage inclt~din.g: (i) extreme volatility of the forex markets; (ii) potential
custoraer liabili .ty tbr losses if positions are ,mr closed out; (iii) counterparty risk; and, (iv) current and
proposed margi~ requirements by other regntato~
T
bodies, includir~g FINRA
.
~
It is ~mknown if the
Commission spoke with any i~,dustry participants such as FCMs or ~brex customers whe,~ consideri~g this
provision.
We strongly oppose Proposed RcgMation 5.9. We believe that reduci~,g leverage for retail
forex trausacfio~s to 10:1 will not serve to protect customers a~d will likely, instead, harm the domestic
~brex ind~stry. Many of the reasons cited by ~he Com~ission fbr the reduction of leverage are simply ill-
founded and have previously bee~ examined by the NFA.
~9
We believe that the Commissior~ st~ot, ld not
pass the proposed regulation as wrNen because the NFA's current leverage requireme~t adequately
~'~ With respect to the ~ew 14d~'ED designation and registratio.~ require,hour, we do ~,ot have any specific opinions and
andcrsta~d the reason~g behh~d t~e ~ew desig~atio~
~s See NFA Rule 401(a) (requiring the Series ; F.xam for a variety of members), as well as NFA Bylaw 30i
(requiring the Series 34 exam for Member Firm APs engaged in the oft~exchange retail forex markets).
~3 FingeqMm cards are s~tbmitted by all APs to the NFA and are run throt@~ an e[ecSonic FB~ database. Form 7-R
a~d Form 8-R requke ~n a~d AP applicants, respectively, to provide background infbrmadon o~ prior regma~o.
N
issues which may indicate unfimess. The NFA may, in ceRain instances, contact o~her regulatow bodies regarding
the flt~eaa of m~ applicant~
~'~ This
process will t~sually ~ake s~veral weeks of discussion between d~e firm a~d the NFA and is ust~a~ly gac~itated
by the Member Finn's Ntomey. F'orex IBs face dift~re~t requirements as de,ailed later in this co~mnent.
~5 See generally Regulafior~
4.23,
Reg~datio~ 4.33 and NFA Rule 2-9 (requMug yearly sell:exam~_ation).
~s UnoNcial discussion by NFA panelists on March 2, 20 i 0 at ~he CPO/CTA RegMato~y Seminar ~ Chicago.
~7 Proposed Regulation Lg(b).
~s See Release at 3290-3291.
*e See gcneral~y Februm7 23~ 2009 NFA le~er to the Commission regardh~g Forex Securib' Deposits.Letter to 7Mr. David Stawick
March 22, 2010
Page 4 of 7
protects investors and it is clear' that there are serious anti-competitio~ issues
witg
the proposed
regt~latiom
NFA Section 12 Provides Greater Leverage_
Proposed Regu[atio,~ 5.9 w-as prom~lga.ted ~ot~,,'ithstanding tt~at tt~e NFA .ius~ recently
implemented a rule, approved by ~he Commission o~ November 30, 2009, requiring leverage tbr Forex
Dealer Members (~'FDMs") of 100:l for major currencies and 25:1 for non-major currencies.
~°
[n
proposit~g the r~ie chaage (h~ which the NFA actually
b~creased
the leverage allowances), the NFA took a
eousidered approach to the lassie. The NFA (i) researched then current FCM and FDM practices with
respect to leverage, (ii) researched the practices of other industry groups, (iii) solicited cort~ments from
FDMs o~ proposed rules, (iw) discussed t~e issue with an FDM advisor,./ committee, a~d (v)
independet~tly it~x*estigated the issue.
2~
In proposing the leverage ru~e, tt~e NFA staled that it "believes that
the arnet~dmet~ts [i00:1 and 25:~ teveragel are the best way to address NFA's customer protection
concerns with certai~t FDMs' t~se of leverage.
''~
The NFA ~'urther s¢Ned that:
Baaed on our experie~ce with FDM practices, i~cluding that most FDMa use systems that
liquidate ct~stomer positions before they reach a negative balance,
NFA ~e~ieves ~ha* the
lN g~nd 4~ securiO; deposit requi~'eme~at amo,m~a remair~ s,g~iclent a~ ghis time ¢0 ])t'ozect
agains~ f!~~ancial harm 1o ~Ms a~d ~heir customers eve~
though they are ~gnificantly
lower tlmn margin req~tireme~ts tbr on-exchartge eq~fivalents]
~
[emphasis added]
We strot~.gly agree with the NFA's current leverage requirements. We believe that the
NFA took the appropriate time a~,d care necessa~' to properly research this issue and that sig~ificant
deference should be given to the NFA's margin requirements for Commissio~ registrants.
.__L:'.!.~__r_gg__e_~I__e___n__t__ed Industry Resistanc__e___t_9____L___o____w_.g.r.__I_:~__e___
As of March 22, 20~0, the Commission published o~ its website a.tmost 9,000 comments.
These comments were prepared axed s,abmitted by all types of participants within the retail forex industr?"
including: forex investors, market participants such as forex CPOs; forex C'rAs, t'orex [Bs, FCMs, FDMs,
a~d two newly formed coalitions
-,
the Forex Excl~a~ge Dealers Coalitio~ arid the IB Coalition. The
comments were overwhelmingly agai~st leverage reduction and a majority' ha~,e cited a nmnber of' reasons
iacluding: (~) liberty/freedom to contract~ (ii)job loss t?om tradi~g going overseas;
~4
arid, (iii) lack of
protections to domestic investors in offshore jurisdictions.
a~ [d.
~-a
~--~ gqten the NFA wrote the refereaced letter, FDMs were only required to maintain miaimtam capital of $250,000
whic~ ~s significantly less ~a~ the curren~ NFA requiremen~ of $20 million (or more under cegain ch'cumstances)
mininmm ~et capital.
74 We believe fl~at one of the more appropriate comn~e~*s in this respect came ~om Uta~ Se~ator Orrin Hatch, letter
dared March 2, 2010, w~o staed, "If ali developed-cou~t~W regulators adopted common leverage reqtfiremen
U.S. h~dus~ might be able to rema{~ competitive m~der such a rule, but absent such sta~dard~zation, the United
SiNes [s at risk of losing jobs fi'om this proposed r~gt~lation."Letter to Mr, [)avid Staw~ck
iMarch 22, 2010
Page 5 of 7
PIALLO
We share the views expressed in many of the comments, especially with respect to
viability of the fbrex, industry0 in the United States if |ower leverage is req~ired. As many comments
noted, if lower leverage is instituted, customers w~ll simply move their accounts to offshore brokers who
provide ~everage of 200:1 or more. it is commot~ knowledge that these offshore brokers can be
m~reputable and may actually provide investors with fewer safeguards than domestic brokers who are
(a~;d will co~tinue to be) subject to oversight by both the Commission and the NFA.
Net Capital Requirement~
Proposed Regulatio~ 5.7 reqtdres each FCM engaged in retail forex transactions and each
RFED to maintain a certain miMmum net capital. The net capital requirement would require firms to
mah~tain the greater of: $20 million; $20 millio~ ph~s 5% of the total retail forex obligation in excess of
$10 million; any amount required trader Commission Regulation l~17; or amounts required by a self
regulatory organizatMn of which the FCM or RFED is a member.
75
The purpose of these requirements is
to protect retail customers in the absence of bankruptcy protection for segregated funds by n;akir~g sure
that FCMs and RFEDs will be able to remain solvent.
)-~
We believe that absent bankruptcy protection for segregated fm~ds, high net capital
requirements are the best way to protect the assets of retail investors. We do note, howcven that high net
capital requireme~ts ~imit the groups who are able to participate as prir~cipa~s in these markets.
I~troduc~g Broker Guarantee Agreement
Proposed Regu~atio~ 1 ~10 requires fbrex IBs to e~ter into a g~arantee agreement with a
RI:ED or FCM in con~ection with retail off-exchange fbrex trmasactions,
z;
The Commission will prepare
a new Part C guarantee agreement to the Form I.-FR-IB which, according to the Release, wilt make FCMs
and R_FEDs jointly and severally liable for all obligatiot~s of the IB with respect to the so~icitatiot~ or; and
transactions involving, all retail fbrex customer accounts of the IB entered into on or a-l~er the effective
date of the guarantee agreement. The Commission believes that the guarantee requirement serves the
public's interest by creating a marketplace where improper practices by IBs are disco~raged while sti~t
permitting FCMs and RFEDs to make usc of outside salespeople.
We strongly disagree with Proposed Regulation l~10. We believe it will effectNely
e~hnit~ate almost all ~orex IBs and put a number of honest and ethical forex IBs oat of business. While it
would be true that RFEDs and FCMs woMd stitl be able to utilize outside sales agents, in practice RFEDs
or FCMs are not going to take on the risk of guaranteei~g fbrex IBs.
We also cannot support this proposa! because we believe that there is strong oversight of
forex IBs a~d that registration will further weed out unscrupulous players. As we discussed above~ the
~ See Release at 33 i5o
~a See Release at 3290 ("The Commission recog~izes that the retail forex obl~.gation is not an equivMent s~bstitute
l:br the segregamd f~mds regime, which cannot be rep,'.icated ~n the context of off-exchange re~ail forex trading.
Unlike segregation of customer funds deposked tbr [htures t~ading, such amounts would not be provided
any
preferential treatment to tmsecm'ed creditors in a bankruptcy, at~d would not be held kn separately titled accounts
under the CEAo").
~7 See Release at 328"7.Letter
to
Mr. David Stawick
March 22, 2010
Page 6 of 7
NFA is tasked with significa~t oversight ~esponsibilities a.I~d does not take this mandate lightly. While a
forex CPO or CTA may be able to become initially registered within a tnatter of weeks (assuming the
firm a~d principMs have clean regulatory histories), a ~brex IB application may take three to six months or
longer to be approved° Also, unlike forex CPOs and CTAs, the NFA requires tbrex IBs to have robust
Anti-Money Laundering procedures, Business Cont[nui~ Plans and other cornplim~ce policies and
procedures in place prior to registration. During the IB registration process the NFA examiners
thoroughly review an applica,t's background and operating procedv..res. Additionally, the NFA requires
independent iBs to mair~tain a $45,000 net capital requirement and to submit financial infi~m~aiion on a
semi-annual basis.
~s
in our opinion this existing regtflatoD, framework of review procedures aM net
capital rules is more than sufficient to ensure investor proteetion.
Furthermore, we concur with a number of commenters who have noted that there are
l'aimess concerns
vis-a-v'i,
introducing brokers to on-exchange traders, We believe that the Commission
can achieve its goal of investor protection througg lcss anti-competitive means.
__G_'__r__a__~.__d_~g_thering
Provision Should be Added
In the eve~t fl~e Commission adopts the proposed regulation as draRed, we believe the
Commissio~ should provide a grandfathering provision for current forex IBs who would be put out of
b~s~ess if the proposed regulation was passed as cmrently writtem Additionally, the Commission should
clarify the manner h~ wMch independent IBs are treated if they make introductions to both exc[~ange
traded futures products in addition to retail forex.
The Proposed Regtflations inch~de a number of revisiot~s to current Commission
regu~atiot~s which are necessary from a technical perspective to ensure the new regulations are properly
implemented wkhin the Commission's statutory' framework. We agree that tech~ical adjustments to
cu~ent rules are ~ecessary and applaud the Commission for trying to streamline regulatiot~ as much as
possible,
a~
Certain technical aspects of the roles, however, sho~tld be revised with appropriate industt
3,
input.
~°
Additionally, a~,y adopted leverage regulation will likely necessitate a change to certain
provisions which cu~ently reference the NFA leverage rule]:
Disclosure Documettt Risk Statements
Proposed Reg,.clarions 4.24 and 4.34 provide certain risk disclosure statements which
must be included at the beginning of forex CPO m~d CTA disclosure docmnentso We cora.pletely
understand the p,rpose of this requirement aM we also understand that this practice woMd mirror the
current requiremems for CPOs arid CTAs. However, we do not believe that consumers actually read long
2_~ See NFA F~nancial Requirements, Sectio1~ 5,
29 See, especially, Release discussion with respect to Proposed Sectio.~ 5.
?0 See, especially, comment letters f_rom Globs! Fu'mres & Forex, Ltd., dated March 9~ 2010, and Rosenthal Col~i,s
Groups, LLC, dated March 8, 20[0o
~ See, e.go, proposed changes to Regulation 4.7(a)(1)(v)(B), Regulation 4,12(b)(i)(C), and Regulation 4.13(a)(3)(ii).Letter to Mr. David Stawick
March 22, 20 l 0
Page 7 of 7
b'lA L LO
paragraphs of legal disclaimers in large capital letters, in the future, the Commission should consider a
succinct bullet point list. We believe that consomers are more likely to read and understated in%rmation in
such fore, at.
Proposed Regulation 5.5 would req~,ire FCMs, RFEDs and forex IlBs m provide retai~
forex cktstomers with a risk disclosure statement similar to the statement currently required for customers
engaging in on-exchange trading. Proposed Regulation 5.5(e) would additionally require these firms to
disclose additiona~ information which is not required to be disclosed for on-exchange trading.
32
We
believe that Proposed Regulation 5.5(e) should not be deleted because it v,,ot, td not fresher any true
investor protection and woutd likely be anti-competitive.
The proposed rules seek to develop a comprehensive regulatory structure fbr the off-
exchange retail forex industry. Wc have provided the Commission with these comments fl~ the hope of
helping to create a robust but appropriate regulatory environmem while preserving the industry's abiliD'
to succeed in a gtoba~ forex marketplace. We appreciate the opportunity, to comme~t on the Release° K
you have any qr.,estions regarding this letter, please cow,tact the undersigned at 4 ~ 5-868--5345.
Mallon P.C.
Bar~ Mallon
3~ Proposed Regulation 5o5(e) g~nerally reqaires that the r~sk disclosure statement include (i) the m~mber of r~ono
disc,etiona>
~
retail forex accot~ms maintai.,~ed by a~ RIVED or FCM, (ii) the perceNage of such accounts that were
profitabte for each of the fot~r most recent, quarters, and (iii) a statement that past performance is not t~ecessari[y
indicative of future results.
