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[Federal Register: July 17, 1998 (Volume 63, Number 137)]
[Proposed Rules]
[Page 38537-38544]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr17jy98-27]

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COMMODITY FUTURES TRADING COMMISSION

17 CFR Part 5


Economic and Public Interest Requirements for Contract Market
Designation

AGENCY: Commodity Futures Trading Commission.

ACTION: Proposed rulemaking.

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SUMMARY: Commodity Futures Trading Commission ("Commission") is
proposing revisions to its Guideline on Economic and Public Interest
Requirements for Contract Market Designation, 17 CFR Part 5, Appendix A
("Guideline No. 1"). Guideline No. 1 details the information that an
application for contract market designation should include in order to
demonstrate that the contract market meets the economic requirements
for designation. The Commission recently promulgated fast-track review
procedures to reduce the time for Commission review of such
applications. In furtherance of these streamlining efforts, the
Commission is proposing that Guideline No. 1 itself be revised to
reduce any unnecessary burdens associated with the designation
application.
    Specifically, the Commission is proposing to reorganize Guideline
No. 1 into several specific application forms, making use to the extent
possible of a checklist or chart format. Moreover, the Commission is
clarifying that a portion of the application may make use of third-
party generated materials. In addition, the Commission is clarifying
the review standards for several of the designation requirements. The
Commission is also proposing that a new appendix be added to Part 5
that would specify the information that should be included by a foreign
board of trade seeking no-action relief to offer and to sell in the
United States a futures contract on a securities index traded on that
exchange.

DATES: Comments must be received by September 15, 1998.

ADDRESSES: Comments should be sent to the Commodity Futures Trading
Commission, Three Lafayette Centre, 1155 21st Street, N.W., Washington,
D.C. 20581, attention: Office of the Secretariat. Comments may be sent
by facsimile transmission to (202) 418-5521 or, by e-mail to
[email protected]. Reference should be made to "Revisions to
Guideline No. 1."

FOR FURTHER INFORMATION CONTACT:
Paul M. Architzel, Chief Counsel, Division of Economic Analysis,
Richard A. Shilts, Director, Market Analysis Section or Kimberly A.
Browning, Attorney/Advisor, Division of Economic analysis, Commodity
Futures Trading Commission, Three Lafayette Centre, 1155 21st Street,
N.W., Washington, D.C. 20581. Telephone: (202) 418-5260. E-mail:
[[email protected]], [RShilts@cftc,gov] or [[email protected]].

SUPPLEMENTARY INFORMATION:

I. Background

    The requirement that boards of trade demonstrate that they meet
specified conditions in order to be designated as a contract market has
been a fundamental tool of federal regulation of commodity futures
exchanges since the Futures Trading Act of 1921, Pub. L. No. 67-66, 42
Stat. 187 (1921).\1\ Currently, the statutory requirements for
designation are found in Sections 5 and 5a of the Commodity Exchange
Act (Act) and, additionally, for indexes of securities, in Section
2(a)(1)(B) of the Act. Designated contract markets must provide for the
prevention of dissemination of false information (Section 5(3) of the
Act); must provide for the prevention of price manipulation (Section
5(4) of the Act); must provide for delivery periods which will prevent
market congestion (Section 5A(a)(4) of the Act); and must permit
delivery on the contract of such grades, at such points and at such
quality and locational differentials as will tend to prevent or to
diminish market manipulation (Section 5a(a)(10) of the Act).\2\
Included among these provisions is the general requirement of Section
5(7) of the Act that trading in a proposed contract not be contrary to
the public interest. The contract market must meet these requirements
both initially and on a continuing basis.\3\
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    \1\ Designation as a contract market under the 1921 Act was
contingent upon a board of trade's providing for the prevention of
manipulative activity and the prevention of dissemination of false
information, upon providing for certain types of recordkeeping and
for admission into exchange membership of cooperative producer
associations, and upon location of the contract market at a terminal
cash market. See, Secs. 5(a), (b), (c), (d) and (e) of the Futures
Trading Act of 1921. Although the constitutionality of this Act was
successfully challenged as an improper use of the Congressional
taxing power in Hill v. Wallace, 259 U.S. 44 (1922), all subsequent
legislation regulating the futures industry was patterned after this
statutory scheme.
    \2\ The Act further requires, as a condition for contract market
designation that the contract market, inter alia: be located at a
terminal cash market or provide for terms and conditions as approved
by the Commission (Section 5(1) of the Act); provide for various
forms of recordkeeping (Sections 5(2) and 5a(a)(2) of the Act);
permit the membership of cooperative associations (Section 5(5) of
the Act); provide for compliance with Commission orders (Section
5(6) of the Act); submit its rules to the Commission (Sections
5a(a)(1) and 5a(a)(12) of the Act); provide that the terms of the
contracts conform to United States commodity standards or those
adopted by the Commission (Section 5a(a)(6) of the Act); accept
warehouse receipts issued under United States law (Section 5a(a)(3)
of the Act); and enforce exchange rules (Section 5a(a)(8) of the
Act).
    \3\ Generally, the burden of demonstrating compliance rests with
the contract market. Section 6 of the Act provides, in part, that:
    Any board of trade desiring to be designated a "contract
market" shall make application to the Commission for such
designation and accompany the same with a showing that it complies
with the above conditions, and with a sufficient assurance that it
will continue to comply with the above requirements.
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    The Commission, as an aid to the exchanges, has provided guidance
in meeting these statutory requirements. In 1975 the newly formed
Commission, in one of its earliest actions, issued its Guideline on
Economic and Public Interest Requirements for Contract Market
Designation, 40 FR 25849 (1975) ("Guideline No. 1").
    Subsequently, the Commission revised this guideline, publishing it
as Appendix A to Part 5 of the Code of Federal Regulations. 47 FR 49832
(November 3, 1982). As revised in 1982, Guideline No. 1 was updated to
address proposed innovations in the trading of futures contracts,
including in particular, futures contracts on financial instruments and
on various indexes and cash-settled futures contracts. Experience has
demonstrated that the guideline has been adaptable and flexible,
facilitating the designation of a wide range of innovative products.
    Guideline No. 1 was again revised in 1992. 57 FR 3518 (January 30,
1992). The 1992 revisions streamlined the designation application for
both futures and option contract markets. Under the 1992 revisions, the
standard of review for specified terms and conditions of proposed
contract market designations under Sections 5 and 5a of the Act was
clarified. Moreover, the 1992 revisions eliminated unnecessary and
redundant materials by requiring that an application for designation of
a futures contract include a cash-market description only when the
proposed contract differs from a currently designated contract and that
it need justify only individual contract terms that are different from
terms which

[[Page 38538]]

previously have been approved by the Commission. 57 FR 3521.\4\
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    \4\ In conjunction with these revisions to the application for
contract market designation, the Commission also modified many of
its internal procedures to expedite the review and approval of new
contracts and proposed amendments to existing contracts. These
include, for example, a policy to notify the public of the
availability of proposed contract terms for comment by publication
in the Federal Register within one week of receipt of an
application. In addition, under these procedures, substantive issues
are identified and communicated informally to the exchange very
shortly after receipt, permitting a prompt resolution. The review
and approval of new contracts usually is completed shortly after the
Federal Register public comment period ends or as soon as the
exchange makes the modifications necessary to address a proposed
contract's deficiencies. With these changes, the total review time
for new contracts declined significantly.
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    In addition, the 1992 revisions introduced the use of a new
checklist-style format for applications for designation of option
contracts. The checklist application for option contracts has reduced
the required filing of redundant or otherwise unnecessary information,
resulting in designation applications which are clearer and more
concise. Presumably, the exchanges have thereby realized savings in
both the time and costs associated with filing an application.
Moreover, the uniform format has enabled the Commission to review such
checklist applications in a more timely and efficient manner.
Applications for designation of options on futures contracts, however,
are uniquely amenable to such a checklist format because option
contract terms tend to be highly uniform and the majority of issues
arise in connection with the designation of the underlying futures
contract.
    In April 1997, new Commission Rule 5.1 establishing fast-track
procedures for Commission review and approval of applications for
contract market designation became effective. 62 FR 10434 (March 7,
1997). That rule creates a streamlined and speedy alternative review
process for Commission consideration of designation applications,
reducing unnecessary regulatory burdens on exchanges while also
preserving the opportunity for public participation where needed and
fulfillment of the Commission's oversight responsibilities. Under the
fast-track review procedures, applications for designation of certain
cash-settled futures and option contracts are deemed to be approved ten
days after receipt, unless the exchange is notified otherwise. Certain
other applications are deemed approved 45 days after receipt absent
contrary notification. Since implementing fast-track review procedures
in April 1997, 45 contracts have been approved by the Commission under
this rule, 18 under the 10-day procedure and 27 under the 45-day
procedure.\5\
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    \5\ An additional 10 contracts were approved under non-fast-
track review procedures. These included five equity index contracts,
which were not eligible for fast-track approval because of the
statutory requirement of review by the U.S. Securities and Exchange
Commission (SEC), one contract that was approved under regular
procedures before the end of the fast-track period, and four
contracts that were processed under regular procedures at the
request of the submitting exchange.
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    The Commission, in promulgating the fast-track review rules,
indicated its intent broadly to reexamine the form and content
requirements of Guideline No. 1, including consideration of the
possible applicability of an option-style checklist to applications for
designation of proposed futures contracts.\6\ The Commission has noted
that "[i]mplementation of fast-track review and approval procedures,
separately and together with the planned revision of the format and
content requirements for designation applications, should result in
significantly streamlining the procedures and regulatory requirements
associated with the current contract designation process," 62 FR
10435, and that these initiatives should permit the exchanges greater
flexibility to compete with foreign exchange-traded products and with
both foreign and domestic over-the-counter transactions while
maintaining the basic protection embedded in the Act. 61 FR 59390
(November 22, 1996).
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    \6\ Guideline No. 1 applies only to the economic requirements
that must be met in order to be designated as a contract market.
Additional requirements are found in the Commission's Guideline No.
2, 1 Comm. Fut. L. Rep (CCH) para.6430. These relate to the contract
market's program for compliance with its self-regulatory
responsibilities. Generally, the review of these issues is most
significant in connection with the first application for contract
designation from a particular board of trade.
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II. Proposed Revisions to Guideline

A. Proposed Changes to the Guideline's Format

    Based upon its experience in administering the current guideline
and the new fast-track procedures, the Commission is proposing to
revise Guideline No. 1 in several important respects. First, the
Commission is proposing to streamline Guideline No. 1 by further
reducing the required paperwork and by further clarifying the
information required to be included. In this regard, as discussed
above, the Commission has observed the success of the checklist
application for option contracts implemented in 1992 and believes that
a similar, but modified, framework using a chart rather than a
checklist can be used for applications for designation of futures
contracts.
    Specifically, the Commission is proposing to reorganize the
contents of the current guideline to address applications for four
different types of contracts: (1) physical delivery futures; (2) cash-
settled futures; (3) options on futures; and (4) options on physicals.
Except for options on physicals, the requirements for each separate
application are self-contained and include the information relevant to
demonstrating compliance with the designation standards for that type
of contract. The information required is largely the same as under the
current guideline, but is presented in a clearer, more focussed format
which includes the use of charts. Information for option contracts will
continue to be provided by checklist. Moreover, the Commission is
proposing to clarify certain standards for review which have envolved
based upon administrative experience and to clarify that exchanges may
fulfill the required cash-market description with information developed
by third parties. The Commission intends to make this format available
to the exchanges electronically and to encourage exchanges to file
electronically to reduce further the paperwork burden associated with
the application process. These proposed revisions are discussed in
greater detail below.
1. Cash Market Overview
    Currently, exchanges are required to include a cash market
description in their designation application. 17 CFR Part 5, Appendix
A(a)(1). The Commission is not proposing to amend this requirement--
each application (except for options on futures) would still require
the inclusion of such an overview. However, the Commission is proposing
to amend Guideline No. 1 to recognize explicitly the acceptability of a
variety of materials in fulfillment of this requirement. Under current
practices, exchanges typically produce their own specific cash-market
descriptions. The Commission notes, however, that the exchanges
presently are not precluded from doing otherwise and that exchanges
have on occasion submitted cash market descriptions which included
third-party materials.\7\
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    \7\ For example, some exchanges have submitted background
studies on proposed contracts that were prepared by outside
consultants.
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    To reduce the burden on the exchanges in satisfying the guideline's
cash-market overview standards, the Commission is proposing to clarify
that exchanges need not submit staff-prepared documents and that they
may

[[Page 38539]]

submit cash-market descriptions based not only on materials generated
by their staffs, but also on materials obtained from other sources.
Such materials may be developed for an exchange by outside sources
during a feasibility study of a proposed contract, as part of the
exchange's development and consideration of a proposal or as part of
its new product marketing effort. In this regard, as proposed to be
revised, Guideline No. 1 explicitly would state that a cash-market
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description may include:

    Existing studies by industry trade groups, academics,
governmental bodies or other entities; reports of consultations; or
other materials which provide a description of the underlying cash
market. These materials may be submitted in addition to, or in lieu
of, information developed by the board of trade.
2. Charts Relating to Individual Contract Terms and Conditions
    The current guideline requires exchanges to explain how each major
term of a proposed contract, except for those identical to terms
already approved by the Commission, is consistent with cash market
practices or to justify the reason why the contract term appropriately
is inconsistent with such practices. Exchanges submit this explanation
or justification in narrative form. To further streamline the
application process, the Commission is proposing that, in lieu of such
a narrative description, an exchange may complete a chart to provide
the required information. The proposed chart format will reduce the
amount of verbiage and the overall length of designation applications.
    The proposed chart is a template enumerating the significant
contract terms and conditions typically contained in most contracts. In
view of the diverse nature of commodities for which futures contracts
may be developed, however, the template may be modified as necessary to
reflect the nature of the particular commodity or the contract's
specific terms and conditions. Also, to the extent that a proposed
contract includes additional terms and conditions defining the economic
characteristics of the underlying commodity, the board of trade may
modify the form as appropriate. For example, if a contract provides for
more than one quality specification under commodity characteristics
(e.g., a grade standard as well as a weight specification), the board
of trade may add a separate line item to address each commodity
characteristic separately. For line items in the chart that are not
applicable to the proposed contract, the board of trade should simply
indicate "N.A."
    The proposed chart would require that an exchange include a brief
description of the contract's major terms and conditions. Where the
term is consistent with prevailing cash market practices, column 4 may
be completed by providing a very brief statement as to how the term or
condition comports with cash practices. However, where the term or
condition does not comport with cash market practices, a more extensive
discussion is required showing why the provision is necessary or
appropriate for the hedging or pricing utility of the contract and the
overall effect of the provision on deliverable supplies. Consistent
with current requirements, no such justification of an individual term
or condition would be required when that term or condition is the same
as one already approved by the Commission. For such contract terms, the
board of trade should reference in column 2 of the chart the rule
number or other description of the original approved provision.
    In keeping with current requirements, the application also requires
an exchange to specify and to justify speculative position limits as
required under the criteria of Commission rule 1.61, 17 CFR 1.61. The
Commission is proposing that this requirement also be fulfilled by
completion of a chart. However, the Commission is reviewing generally
its speculative position limit policies and may propose further
revisions to this section of Guideline No. 1 if it becomes appropriate
in light of subsequent revisions to its speculative position limit
policies.
3. Clarification of Review Standards
    Central to an application for designation is an exchange's
demonstration that the proposed contract will not be susceptible to
price manipulation or distortion. For physical delivery contracts, this
requires a demonstration that the deliverable supplies provided under
the contract's terms are adequate, and for cash-settled contracts, this
requires that the cash price series to be used for settlement is
reliable. In light of the importance of these issues to a designation
application, the Commission is proposing clarification of these
requirements in the guideline.
    i. Adequacy of deliverable supply. Exchanges are required to
demonstrate that proposed contracts provide for deliverable supplies
that will not be conducive to price manipulation or distortion. A
requirement that an exchange include in its designation application an
analysis of the adequacy of deliverable supply including an estimate of
the deliverable supplies for the delivery months specified in the
proposed contract is implicit under the current guideline. The
Commission is proposing to clarify this requirement by requiring
explicitly designation applications include an estimate of deliverable
supplies for the specified delivery months of a proposed contract.
    Specifically, the Commission is proposing that applications for
designation of physical delivery futures contracts include within a
separate chart of quantitative estimate of expected deliverable
supplies and a description of the methodology used to derive the
estimate. For commodities with seasonal supply or demand
characteristics, the deliverable supply analysis should be based on the
delivery month(s) when potential supplies typically are at their lowest
levels. The estimate should be based on statistical data when
reasonably available covering an historical period that is
representative of actual patterns of production and consumption of the
commodity. If data are taken from publicly available sources, the board
of trade should reference the source material used. If the estimates
are derived independently by the board of trade based on information
not readily verifiable or on trade interviews, the Commission may
request that the board of trade provide the workpapers or other source
materials used in the analysis.
    This estimate would be required to be made taking into
consideration the terms and conditions specified for the deliverable
product and the economic realities of the cash market underlying the
futures contract.\8\ For a physical-delivery futures contract,
therefore, this estimate represents product which is in store at the
delivery point(s) specified in the futures contract or economically can
be moved into or through such points within a short period of time
after a request for delivery and which is available for sale on a spot
basis within the marketing channels that normally are tributary to the
delivery point(s).
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    \8\ Obviously, only product meeting the specified quality
standards (e.g., the grade, age, purity, weight, etc. for tangible
commodities or the issue, maturity, rating, etc. for financial
instruments) is eligible for delivery on a futures contract and
should be considered as part of the deliverable supply.
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    For financial instrument contracts, deliverable supply consists of
available supplies of the instrument meeting the contract's delivery
standards that are available, at prevailing cash market values, to
traders wishing to make future delivery. For example, significant
quantities of off-the-run notes and

[[Page 38540]]

bonds typically may be held by the Federal Reserve System and long-term
investment portfolios (e.g., pension funds) and would not be readily
available for delivery on proposed futures contracts on U.S. government
debt instruments except at distorted prices. Recognizing this and based
on the opinions of knowledgeable industry participants, Commission
staff historically has used a rule-of-thumb that only 50 percent of the
on-the-run U.S. Treasury bond and 10 percent of each of the next two
off-the-run bonds are economically available for delivery.
    The spot-month speculative position limits should be set in
relation to this deliverable supply estimate. Such spot-month
speculative position limits should be no greater than one-quarter of
the deliverable supply estimate for that month.\9\
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    \9\ The Commission believes that spot-month speculative position
limits are not an ideal substitute for deliverable supplies. In this
respect, the fact that an exchange may specify a spot-month
speculative position limit that equals or is less than the "rule-
of-thumb" standard of one-fourth of a low deliverable supply
estimate does not mean that deliverable supplies are at adequate
levels. The Commission has approved new futures contracts or amended
existing futures contracts with low deliverable supplies only after
an exchange has exhausted potential sources of deliverable supplies
and, if necessary, adopted low spot-month speculative limits to give
it the ability to limit potential delivery demand. The preferred
approach under the Act if deliverable supplies are inadequate is for
the exchange to modify the delivery specifications to enhance
deliverable supplies. See, section 5a(a)(10) of the Act.
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    ii. Justification of cash settlement price. The adequacy of the
procedures for determining the cash settlement price is central to the
Commission's review of proposed cash-settled contracts. Applications
for such proposed futures contracts would continue to be required to
demonstrate that those procedures will result in a cash settlement
price which reflects the underlying cash market and is not subject to
manipulation or distortion. In order to provide additional guidance to
exchanges in meeting this requirement, the Commission is clarifying two
of the criteria which it has identified through past experience for
meeting these requirements. In this regard, any cash settlement price
which is determined by an exchange through a survey method to elicit
price quotes should include a number of polled entities which is
representative of the underlying cash market. In no event, however, may
the polling sample include fewer than four unrelated entities that do
not take positions for their own account in the futures, option or
underlying cash markets. Where the entities to be polled may trade in
such markets for their own accounts, a minimum of eight unrelated
entities would be required. These rule-of-thumb criteria have been
included in the relevant chart.

B. Effect on Pending Applications

    The proposed revision to Guideline No. 1 streamline the application
process for designation of contract markets and clarify existing
requirements and Commission practice. Because the Commission is not
proposing any new substantive requirements, however, the Commission is
permitting exchanges immediately to begin filing applications
consistent with the proposed format. Moreover, because the Commission
is permitting exchanges to continue providing the required information
in a narrative format if they prefer, no application filed or already
under development and nearing completion which complies with the
existing guideline would have to be revised.

C. Foreign Futures Markets

    The offer or sale in the United States of futures contracts traded
on or subject to the rules of a foreign exchange is subject to the
Commission's exclusive jurisdiction.\10\ Although Section
2(a)(1)(B)(ii) of the Act provides that the Commission shall not
designate a board of trade as a contract market in a futures on a
securities index unless the Commission finds that the board of trade
meets three enumerated criteria,\11\ Congress understood that a foreign
exchange might lawfully offer futures contracts on stock indexes absent
designation. Thus, the House Committee on Agriculture suggested that a
foreign board of trade could apply for "certification" that its stock
index contract meets all applicable Commission requirements. H.R. Rep.
No. 565, Part 1, 97th Cong., 2d Sess. 85 (1982). That Committee further
explained that a foreign exchange seeking to offer in the United States
a futures contract based upon an index of United States securities must
demonstrate that the proposed futures contract meets the requirements
set forth in Section 2(a)(1)(B)(ii). Id. With regard to a foreign stock
index contract based on "foreign securities," the House Committee
suggested that the Commission use such criteria as it deems
appropriate.
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    \10\ Section 2(a)(1)(A), 7 U.S.C. 2 (1982); 120 Cong. Rec. 34497
(1974) (Statement of Senator Talmadge) (the terms "any other board
of trade, exchange, or market" in Section 2(a)(1)(A) make clear the
Commission's exclusive jurisdiction includes futures contracts
executed on a foreign board of trade, exchange or market).
    \11\ These three criteria are contained in Section
2(a)(1)(B)(ii). They are:
    (1) The contract must provide for cash settlement;
    (2) The proposed contract will not be readily susceptible to
manipulation or to being used to manipulate any underlying security;
and
    (3) The index is predominately composed of the securities of
unaffiliated issuers and reflects the market for all publicly traded
securities or a substantial segment thereof.
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    The Commission has not promulgated procedures for the filing of
requests by foreign boards of trade for "certification" to offer or
to sell such contracts, but instead has issued through its Office of
the General Counsel, several " no-action" letters \12\ regarding
foreign stock index contracts based on foreign securities using the
criteria set forth in Section 2(a)(1)(B)(ii) of the Act. As of June 4,
1998, such action has been taken for 24 stock index contracts for offer
or sale in the United States that were submitted by 15 foreign boards
of trade.\13\
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    \12\ A no-action letter is a written statement that staff of a
specific division will not recommend enforcement action to the
Commission if a proposed transaction is undertaken or a proposed
activity is conducted. A no-action letter represents the position of
only the division issuing it and is binding upon that division and
not on the Commission or other divisions. Further, a no-action
letter is only effective with respect to the person or persons to
whom it was issued and has no precedential effect.
    \13\ These 15 foreign boards of trade include: (1) Osaka
Securities Exchange; (2) Tokyo Stock Exchange; (3) Hong Kong Futures
Exchange; (4) Singapore International Monetary Exchange, Ltd.; (5)
Toronto Futures Exchange; (6) International Futures Exchange
(Bermuda), Ltd.; (7) London International Financial Futures Exchange
Limited; (8) Marche a Terme International de France; (9) Sydney
Futures Exchange Limited; (10) Meff Sociedad Rectora de Productos
Financieros Derivados de Renta Variable, S.A. (Spain); (11) Deutsche
Terminborse; (12) Italian Stock Exchange; (13) The Amsterdam
Exchanges; (14) OMLX, The London Securities and Derivatives
Exchange, Ltd; and (15) OM Stockholm AB.
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    Generally, the staff has analyzed such requests for a "no-action"
opinion under the requirements of Section 2(a)(1)(B)(ii) of the Act.
Accordingly, the staff has requested that the foreign board of trade
file information which they deem relevant to those criteria. 57 FR
3518. To facilitate the staff's review of such requests by foreign
boards of trade, the Commission is proposing that a separate appendix
be added to Part 5 that would enumerate the information that foreign
boards of trade should file with the Commission to assist in the
staff's analysis of such requests. This information is the same as that
previously requested to be filed. Id. Some of the data which should be
included are: the terms and conditions of the contract and all other
relevant rules of the exchange; information on information sharing
arrangements or any legal obstacles to such sharing of information; and
specific information related to the composition and computation of the
index. All

[[Page 38541]]

information should be submitted in English, including any supplemental
material such as explanatory notes, appended tables or charts. It
should be noted that the Commission consults with the SEC regarding
these procedures. When such consultation occurs, additional information
may be requested by the SEC.

III. Related Matters

A. Regulatory Flexibility Act

    The Regulatory Flexibility Act ("RFA"), 5 U.S.C. 601 et seq.,
requires that agencies, in promulgating rules, consider the impact of
these rules on small entities. The Commission has previously determined
that contract markets are not "small entities" for purposes of the
RFA, 5 U.S.C. 601 et seq. 47 FR 18618 (April 30, 1982). These
amendments propose to establish alternative streamlined procedures for
Commission review and approval of applications by contract markets for
designations and of amendments to contract terms and conditions.
Accordingly, the Chairperson, on behalf of the Commission, hereby
certifies, pursuant to 5 U.S.C. 605(b), that the action taken herein
will not have a significant economic impact on a substantial number of
small entities. However, the Commission invites comments from any firms
or other persons which believe that the promulgation of these rules
might have a significant impact upon their activities.

B. Paperwork Reduction Act

    When publishing proposed rules, the Paperwork Reduction Act
("PRA") of 1995 {Pub. L. 104-13 (May 1, 1995)} 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 Act, the
Commission, through this rule proposal, solicits comments to:
    (1) Evaluate whether the proposed collection of information is
necessary for the proper performance of the functions of the agency,
including the validity of the methodology and assumptions used; (2)
evaluate the accuracy of the agency's estimate of the burden of the
proposed collection of information including the validity of the
methodology and assumptions used; (3) enhance the quality, utility, and
clarity of the information to be collected; and minimize the burden of
the collection of the information on those who are to respond,
including through the use of appropriate automated, electronic,
mechanical, or other technological collection techniques or other forms
of information technology, e.g., permitting electronic submission of
responses.
    The Commission has submitted this proposed rule and its associated
information collection requirements to the Office of Management and
Budget. The burden associated with this entire collection (3038-0022),
including this proposed rule, is as follows:

Average burden hours per response: 3,609
Number of Respondents: 15,693
Frequency of response: On Occasion

    The burden associated with this specific proposed rule is as
follows:

Average burden hours per response: 58
Number of Respondents: 11
Frequency of response: On Occasion

    Persons wishing to comment on the information which would be
required by this proposed rule should contact the Desk Officer, CFTC,
Office of Management and Budget, Room 10202, NEOB, Washington, DC
20503, (202) 395-7340. Copies of the information collection submission
to OMB are available from the CFTC Clearance Officer, 1155 21st Street,
NW, Washington, DC 20581, (202) 418-5160.
    Copies of the OMB-approved information collection package
associated with this rulemaking may be obtained from the Desk Officer,
Commodity Futures Trading Commission, Office of Management and Budget,
Room 10202, NEOB Washington, D.C. 20503, (202) 395-7340.

List of Subjects in 17 CFR Part 5

    Commodity futures, Contract markets, Designation application,
Reporting and recordkeeping requirements.

    In consideration of the foregoing, and pursuant to the authority
contained in the Commodity Exchange Act, and in particular sections 4c,
5, 5a, 6 and 8a, 7 U.S.C. 6c, 7, 7a, 8, and 12a, the Commission hereby
proposes to amend Chapter I of Title 17 of the Code of Federal
Regulations by amending Part 5 as follows:

PART 5--DESIGNATON OF AND CONTINUING COMPLIANCE BY CONTRACT MARKET

    1. The authority citation for Part 5 continues to read as follows:

    Authority: 7 U.S.C. 6c, 7, 7a, 8 and 12a.

    2. In part 5, Appendix A is proposed to be revised to read as
follows:

Appendix A to Part 5--Guideline No. 1; Interpretative Statement
Regarding Economic and Public Interest Requirements for Contract Market
Designation

(a) Application for Designation of Physical Delivery Futures
Contracts

    A board of trade shall submit:
    (1) The rules setting forth the terms and conditions of the
proposed futures contract.
    (2) A description of the cash market for the commodity on which
the contract is based.
    (i) The description may include, in addition to or in lieu of
materials prepared by the board of trade, existing studies by
industry trade groups, academics, governmental bodies or other
entities, reports of consultants, or other materials which provide a
description of the underlying cash market.
    (ii) Where the same, or a closely related commodity, is already
designated as a contract market which is not dormant, the cash
market description can be confined to those aspects relevant to
particular term(s) or conditions(s) which differ from such existing
contract.
    (3) A demonstration that the terms and conditions, as a whole,
will result in a deliverable supply such that the contract will not
be conducive to price manipulation or distortion and that the
deliverable supply reasonably can be expected to be available to
short traders and salable by long traders at its market value in
normal cash marketing channels.
    For purposes of this demonstration, provide the following
information in chart or narrative form.

[[Page 38542]]



                                          Contract Terms and Conditions
----------------------------------------------------------------------------------------------------------------
                                                                                            Explanation as to
                                                                      Rule number of      consistency with, or
              Term or condition                Exchange proposal    identical approved     reason for variance
                                                                    provision, if any*      from, cash market
                                                                                                practice
----------------------------------------------------------------------------------------------------------------
1. Commodity characteristics (e.g., grade,
 quality, weight, class, growth, issuer,
 origin, maturity, source, rating, etc.).
2. Any quality differentials for nonpar
 deliveries, or lack thereof, consistent
 with the Commission's Policy on Price
 Differentials.
3. Delivery Points/Region.
4. Any locational differentials for nonpar
 deliveries, or lack thereof, consistent
 with the Commission's Policy on Price
 Differentials.
5. Delivery facilities (type, number,
 capacity, ownership).
6. Contract size and/or trading unit.
7. Delivery pack or composition of delivery
 units.
8. Delivery instrument (e.g., warehouse
 receipt, shipping certificate, bill of
 lading).
9. Transportation terms (e.g., FOB, CIF,
 prepay frieght to destination).
10. Delivery procedures.
11. Delivery months.
12. Delivery period and last trading day.
13. Inspection/certification procedures
 (verification of delivery eligibility, any
 discounts applied for age).
14. Minimum price change (tick) equal to or
 less than cash market minimum price
 increment.
15. Daily price limit provisions (note
 relationship to cash market price
 movements).
----------------------------------------------------------------------------------------------------------------
*If an identical provision has been approved for a nondormant contract in the same commodity, there is no need
  to provide an explanation in the next column.


                          Deliverable Supplies
------------------------------------------------------------------------

------------------------------------------------------------------------
    Estimate of Deliverable Supplies for Trading Month(s) With Lowest
                                Supplies
------------------------------------------------------------------------
EstimationMethodology:
------------------------------------------------------------------------


                           Speculative Limits
------------------------------------------------------------------------
                                                       Level (exchange
      Speculative limit             Standard                rule)
------------------------------------------------------------------------
1. Spot month...............  No greater than one-
                               fourth of estimated
                               deliverable supply
2. Nonspot individual month   5,000 contracts
 and all months combined
 (financial and energy
 contracts)
3. Nonspot individual month   1,000 contracts
 and all months combined
 (tangible commodity
 contracts)
4. Reporting level..........  Equal to or less
                               than levels
                               specified in CFTC
                               rule 15.03
5. Aggregation rule.........  Same as CFTC rule
                               150.5(g) or
                               previously approved
                               language
------------------------------------------------------------------------

    (4) As specifically requested, such additional evidence,
information or data relating to whether the contract meets,
initially or on a continuing basis, any of the specific requirements
of the Act, including the public interest standard contained in
Section 5(7) of the Act, and whether the contract reasonably can be
expected to be, or has been, used for hedging and/or price basing on
more than an occasional basis, or any other requirement for
designation under the Act or Commission rules and policies.

(b) Application for Cash Settled Futures Contracts

    A board of trade shall submit:
    (1) The rules setting forth the terms and conditions of the
proposed futures contract.
    (b) A description of the cash market for the commodity on which
the contract is based.
    (i) The description may include, in addition to or in lieu of
materials prepared by the board of trade, existing studies by
industry trade groups, academics, governmental bodies or other
entities, reports of consultants, or other materials which provide a
description of the underlying cash market.
    (ii) Where the same, or a closely related commodity, is already
designated as a contract market which is not dormant, the cash
market description can be confined to those aspects relevant to
particular term(s) or conditions(s) which differ from such existing
contract.
    (3) A demonstration that cash settlement of the contract is at a
price relfecting the underlying cash market, will not be subject to
manipulation or distortion, and is based on a cash price series that
is reliable, acceptable, publicly available and timely.
    For purposes of this demonstration, provide the following
information in chart or narrative form.

[[Page 38543]]




                                                 Contract Terms
----------------------------------------------------------------------------------------------------------------
                                                                                            Explanation as to
                                                                      Rule number of      consistency with, or
              Term or condition                     Proposal        identical approved     reason for variance
                                                                    provision, if any*      from, cash market
                                                                                                practice
----------------------------------------------------------------------------------------------------------------
1. Commodity characterisics (e.g., grade,
 quality, weight, class, growth, issuer,
 maturity, source, rating, etc.).
2. Delivery months, noting any cyclical
 variations in trading activity that may
 affect the potential for manipulating the
 cash settlement price.
3. Last trading day.
4. Contract size.
5. Minimum price change (tick).
6. Daily price limit provisions, relative to
 cash market price movements.
----------------------------------------------------------------------------------------------------------------
*If an identical provision has been approved for a nondormant contract in the same commodity, there is no need
  to provide an explanation in the next column.


                                          Cash Settlement Price Series
----------------------------------------------------------------------------------------------------------------
                                                      Rule number of identical
                    Requirement                          approved provision        Explanation or justification
----------------------------------------------------------------------------------------------------------------
1. Where an independent third party calculates the
 cash settlement price series, evidence that the
 third party does not object to its use and
 provides safeguards against its susceptibility to
 manipulation.
2. Where board of trade generates cash settlement
 price series, specification of calculation
 procedure and safeguards in cash settlement
 process to protect against susceptibility to
 manipulation (e.g., if self-generated survey,
 polling sample representative of cash market, but
 with a minimum of 4 nontrading entities or 8
 entities that trade for own account).
3. Procedure for, and timeliness of, dissemination
 to public.
4. Evidence that price is reliable indicator of
 cash market values and is acceptable for hedging.
----------------------------------------------------------------------------------------------------------------


                           Speculative Limits
------------------------------------------------------------------------
                                                       Level (exchange
      Speculative limit             Standard                rule)
------------------------------------------------------------------------
1. Spot month...............  Needed to minimize
                               potential for
                               manipulation if
                               underlying cash
                               market is small or
                               trading is not
                               highly liquid.
2. Nonspot individual month   5,000 contracts
 and all months combined
 (financial and energy
 contracts).
3. Nonspot individual month   1,000 contracts
 and all months combined
 (tangible commodity
 contracts).
4. Reporting level..........  Equal to or less
                               than levels
                               specified in CFTC
                               rule 15.03.
5. Aggregation rule.........  Same as CFTC rule
                               150.5(g) or
                               previously approved
                               language.
------------------------------------------------------------------------

    (4) As specifically requested, such additional evidence,
information or data relating to whether the contract meets,
initially or on a continuing basis, any of the specific requirements
of the Act, including the public interest standard contained in
Section 5(7) of the Act, and whether the contract reasonably can be
expected to be, or has been, used for hedging and/or price basing on
more than an occasional basis, or any other requirement for
designation under the Act or Commission rules and policies.

(c) Application for Option Contracts

    A board of trade shall submit:
    (1) The rules setting forth the terms and conditions of the
proposed option contract.
    (2)(i) For options on future contracts, the terms and conditions
of the proposed or existing underlying futures contract.
    (2)(ii) For options on physical commodities:
    (A) A description of the cash market for the commodity on which
the contract is based.
    (1) The description may include, in addition to or in lieu of
materials prepared by the board of trade: existing studies by
industry trade groups, academics, governmental bodies or other
entities; promotional or marketing materials prepared by or for the
board of trade; reports of consultants; or other materials which
provide a description of the underlying cash market.
    (2) Where the same, or a closely related commodity, is already
designated and is not dormant, the cash market description can be
confined to those aspects relevant to particular term(s) or
conditions(s) which differ from such existing contract.
    (B) Depending on the method of settling the option, the relevant
chart for either a physical delivery or cash settled futures
contract.
    (3) The following completed chart.

[[Page 38544]]



----------------------------------------------------------------------------------------------------------------
                                                                                                  Justification
                                                                                        Met by   for not meeting
                                Applicable CFTC rule                                   exchange    standard, or
          Criterion                   (17 CFR)                   Standard                rule     rule number of
                                                                                        number      identical
                                                                                                  approved rule
----------------------------------------------------------------------------------------------------------------
Speculative limits...........  150.5................  Combined net position in
                                                       futures and options on a
                                                       futures-equivalent basis at
                                                       the futures position levels,
                                                       with inter-month spread
                                                       exemptions that are
                                                       consistent with those of the
                                                       futures contract.
2. Aggregation rule..........  150.4................  Same as Rule 150.5(g) or
                                                       previously approved language.
3. Reporting level...........  15.00(b)(2)..........  50 contracts or fewer.
4. Strike prices (number       33.4(b)(1)...........  Procedures for listing strikes
 listed & increments).                                 are specified and automatic.
5. Option expiration & last    33.4(d)(1)...........  Except for options on cash-
 trading day.                                          settled futures contracts,
                                                       expiration is not less than
                                                       one business day before the
                                                       earlier of the last trading
                                                       day or the first notice day
                                                       of the underlying future.
6. Minimum tick..............  33.4(d)..............  Equal to, or less than, the
                                                       underlying futures tick.
7. Daily price limit, if       33.4(d)..............  Equal to, or greater than, the
 specified.                                            underlying futures price
                                                       limit.
----------------------------------------------------------------------------------------------------------------

    (4) As specifically requested, such additional evidence,
information or data relating to whether the contract meets,
initially or on a continuing basis, any of the specific requirements
of the Act, including the public interest standard contained in
Section 5(7) of the Act or any other requirement for designation
under the Act or Commission rules and policies.
    3. Part 5 is proposed to be amended by adding new Appendix E to
read as follows:

Appendix E--Information That a Foreign Board of Trade Should Submit
When Seeking No-Action Relief To Offer and Sell in the United States a
Futures Contract on a Foreign Securities Index Traded on That Exchange

    A foreign board of trade seeking no-action relief to offer and
to sell in the United States a futures contract on a foreign
securities index traded on that exchange should submit the following
information in English:
    (1) The terms and conditions of the contract and all other
relevant rules of the exchange and, if applicable, of the exchange
on which the underlying securities are traded, which have an effect
on the overall trading of the contract, including circuit breakers,
price limits, position limits or other controls on trading;
    (2) Surveillance agreements between the foreign boards of trade
and the exchange(s) on which the underlying securities are traded;
    (3) Information sharing agreements between the host regulator
and the Commission or assurances of ability and willingness to share
and assurances from the foreign exchange of its ability and
willingness to share information with the Commission.
    (4) When applicable, information regarding foreign blocking
statutes and their impact on the ability of United States government
agencies to obtain information concerning the trading of such
contracts; and
    (5) Information and data, denoted in U.S. dollars, relating to:
    (i) The method of computation, availability, and timeliness of
the index;
    (ii) The total capitalization, number of stocks (including the
number of unafiliated issuers if different from the number of
stocks), and weighting of the stocks by capitalization and if
applicable by price, in the index;
    (iii) Breakdown of the index by industry segment including the
capitalization and weight of each industry segment;
    (iv) Procedures and criteria for selection of individual
securities for inclusion in, or removal from, the index, how often
the index is regularly reviewed, and any procedures for changes in
the index between regularly scheduled reviews;
    (v) Method of calculation of the cash-settlement price and the
timing of its public release; and
    (vi) Average daily volume of trading by calendar month, measured
by share turnover and dollar value, in each of the underlying
securities for a six-month period of time and, separately, the daily
volume in each underlying security for six expirations (cash-
settlement dates) or for the six days of that period on which cash-
settlement would have occurred had each month of the period been an
expiration month.

    Issued in Washington, D.C. this 13th day of July, 1998 by the
Commodity Futures Trading Commission.
Jean Webb,
Secretary of the Commission.
[FR Doc. 98-19113 Filed 7-16-98; 8:45 am]
BILLING CODE 6351-01-M
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