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CFTC Urges More Protections for Futures, Swaps Customers

In response to collapses at Peregrine Financial Group Inc. (see NGI, July 23) and MF Global Holdings Ltd. (see NGI, Nov. 14, 2011), both of which involved the misappropriation of customer funds, the Commodity Futures Trading Commission (CFTC) last week voted out a proposed set of rules to provide a greater level of protection to customers that participate in the futures and swaps markets, including the protection of customer funds held by futures commission merchants (FCM) and derivatives clearing organizations.

"The Commission has proposed a new set of rules to, among other things, increase customer protections and disclosures, strengthen risk management programs, and enhance auditing and examination procedures for [FCMs]. In light of the recent events surrounding MF Global and Peregrine, I am, of course, supportive of such steps to the extent that they lead to greater customer protections and increased customer awareness of the risks associated with their futures and swaps accounts," said Commissioner Jill E. Sommers.

Because CFTC Chairman Gary Gensler had ties to the former chairman of MF Global (former New Jersey Gov. Jon Corzine), Sommers was picked to head up the agency's investigation into the collapse of the company, which took with it an estimated $1.2 billion in customer funds.

In July, the CFTC filed a complaint in a federal court in Illinois against broker Peregrine and its CEO and owner, Russell Wasendorf Sr., alleging that they committed fraud by misappropriating customer funds, violated customer fund segregation laws and lied in financial statements filed with the agency. The complaint alleged that a shortfall of customer funds in segregated accounts exceeded $200 million. The complaint was filed one day after Wasendorf attempted suicide outside of the company's office in Cedar Falls, IA.

Commissioner Scott O'Malia said the proposed set of rules was a "good start" to averting another Peregrine or MF Global, but "I believe that it is essential to focus on a comprehensive technological solution that goes beyond what the Commission has proposed in this release" -- that FCMs to maintain adequate capital in their customer accounts to ensure customers are not bearing the credit risk of their fellow customers, implement controls around the risks specific to a particular FCM's business, increase the level of disclosures provided to customers, and create an independent segregation account balance verification system.

"Technology can be a cost-effective oversight tool for both customers and the Commission to enhance transparency and improve risk management. Improving our capacity to monitor money flows can serve as a significant deterrent against fraudulent behavior," he said.

Under the CFTC proposal regarding the protection of customer funds, FCMs would be required to hold sufficient funds in Part 30 secured accounts (funds held for U.S. foreign futures and options customers trading on foreign contract markets) to meet their total obligations to customers trading on foreign markets computed under the net liquidating equity method; maintain written policies and procedures governing the maintenance of excess funds in customer segregated and Part 30 secured accounts; and make additional reports available to the SRO and the CFTC, including daily computations of segregated and Part 30 secured accounts.

"The CFTC's mission is to ensure the integrity of the futures and swaps markets. As part of this, we must do everything within our authorities and resources to strengthen oversight programs and the protection of customers and their funds. And that's the goal of this proposal," Gensler said.

In July the CFTC approved a National Futures Association (NFA) proposal, which stemmed from a coordinated effort by the CFTC, self-regulatory organizations (SRO), other financial regulators and market participants, he said. The customer protection proposal voted out Monday incorporates the NFA proposal into the Commission's regulations so that the agency can directly enforce the rules.

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