Congress should address the role of “primary regulator” in its financial reform legislation, identifying the products and markets over which the Commodity Futures Trading Commission (CFTC) should have primary jurisdiction and the ones over which the Securities and Exchange Commission (SEC) should be the primary regulator, to avoid the kind of jurisdictional head-butting that the CFTC and FERC engaged in following the implosion of hedge fund Amaranth Advisors LLC, a legal expert said Thursday.
“I believe this principle of a ‘primary’ regulator should apply…broadly to regulations, enforcement and oversight for the security and commodity markets. There should be a primary regulator for a given product and market; the other regulator should be consulted where necessary or appropriate, but should generally defer to the primary regulator,” said Kenneth M. Raisler, head of the law firm of Sullivan & Cromwell LLP’s commodities, futures and derivatives group.
“The primary regulator should be responsible for enforcement, audit and oversight of the products and markets for which it is the primary regulator…Given that the current legislative proposal from the Treasury Department gives both agencies expansive rulemaking authority to define market products and participants, both agencies can craft rules that follow the ‘primary’ regulator principle,” he said during the second joint CFTC-SEC hearing on the coordination and harmonization of the agencies’ regulations and statutes (see Daily GPI, Sept. 3).
Because the primary regulator approach isn’t used now, the dispute between the CFTC and the Federal Energy Regulatory Commission (FERC) over their jurisdiction in the futures and physical markets continues, Raisler said.
“Although Amaranth’s alleged [manipulation] misconduct occurred in the futures market, FERC contended that it had jurisdiction because the activity was intended to, and did, affect the markets for physical commodities regulated by FERC. Conversely, the CFTC [took] the position that it has the jurisdiction to prosecute manipulation or attempted manipulation in the physical market because of the possible effect on futures markets. The jurisdictional lines between the two agencies [still] remain unresolved and unclear,” he noted.
The CFTC challenged FERC’s authority to pursue manipulative activities in the natural gas futures market after FERC brought an enforcement action in July 2007 against failed hedge fund Amaranth Advisors for manipulation of the gas market (see Daily GPI, July 27, 2007). Amaranth argued that the CFTC, not FERC, had exclusive jurisdiction over its activities in the futures arena, while FERC’s jurisdiction was limited to the physical gas market. A series of court decisions blocked attempts by Amaranth and its former traders to enjoin FERC from proceeding with its enforcement action against them (see Daily GPI, Nov. 5, 2007).
FERC and the CFTC last month entered into separate settlements requiring failed hedge fund Amaranth Advisors, affiliates and former trader Matthew Donohoe to pay a total of $7.5 million in penalties to settle two-year-old claims that they manipulated or attempted to manipulate gas futures prices, but the jurisdictional spat continues (see Daily GPI, Aug. 13).
To avoid similar disputes the “SEC and CFTC should make clear which agency has jurisdiction over which businesses, products and activities and the manner in which market participants will be regulated,” Raisler said. “Ultimately, duplicative regulation and overlapping regulatory jurisdiction will require market participants to comply with multiple registrations, financial and reporting requirements [that] may result in regulatory arbitrage and will result in regulators examining substantially similar information — leaving both agencies spread thin,” he noted.
John C. Coffee Jr., professor of law at Columbia University Law School, called on Congress to increase the financial penalties in CFTC enforcement cases. Under the Commodity Exchange Act, the CFTC can impose a maximum criminal sentence of 10 years and a maximum fine of $1 million. In contrast, the Securities Exchange Act allows the SEC to levy a maximum criminal sentence of 20 years and a maximum fine of $25 million.
“The $1 million ceiling on a criminal fine in the case of the CFTC seems archaic…Legislation to update these trivialized financial penalties seems necessary,” Coffee said. He also believes the CFTC, like the SEC, should be able to impose administrative penalties for misconduct involving fraud, deceit, manipulation or a deliberate or reckless disregard of a regulatory requirement.
The SEC currently can impose administrative penalties ranging from $100,000 to $500,000 without going to court, but the CFTC has to go to court to seek penalties in enforcement cases.
CFTC Chairman Gary Gensler and SEC Chairman Mary Schapiro are to make recommendations to Congress by the end of the month on changes in statutes and regulations to better harmonize the oversight of the futures and securities markets.
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