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[Federal Register: August 17, 2001 (Volume 66, Number 160)]
[Rules and Regulations]
[Page 43083-43087]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr17au01-13]

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COMMODITY FUTURES TRADING COMMISSION

17 CFR Parts 41 and 140

RIN 3038-AB81


Exemption for Certain Brokers or Dealers From Provisions of the
Commodity Exchange Act and CFTC Regulations

AGENCY: Commodity Futures Trading Commission.

ACTION: Final rules.

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SUMMARY: In accordance with certain provisions of the Commodity Futures
Modernization Act of 2000 ("CFMA"), the Commodity Futures Trading
Commission ("Commission" or "CFTC") has adopted, substantially as
proposed, new rule which establishes procedures for granting requests
for orders exempting certain brokers or dealers ("BDs") registered
with the Securities and Exchange Commission ("SEC") from provisions
of the Commodity Exchange Act (the "Act") and/or the Commission's
regulations where the Commission determines that the exemption is
necessary or appropriate in the public interest and consistent with the
protection of investors. The Commission is also permitting securities
industry self-regulatory organizations ("SROs") to submit such
requests for exemptive orders on behalf of their members, and it is
delegating to the Director of the Division of Trading and Markets
authority to grant, to conditionally grant, or to deny, any such
requests for exemptive orders.

EFFECTIVE DATE: October 9, 2001.

FOR FURTHER INFORMATION CONTACT: Lawrence B. Patent, Associate Chief
Counsel, or Christopher W. Cummings, Special Counsel, Division of
Trading and Markets, Commodity Futures Trading Commission, 1155 21st
Street, NW., Washington, DC 20581, telephone number: (202) 418-5450,
facsimile number: (202) 418-5536, electronic mail: [email protected], or
[email protected].

SUPPLEMENTARY INFORMATION:

I. Background

    The CFMA, signed into law on December 21, 2000, effected, among
other things, removal of the restriction in the Act \1\ on the trading
of futures contracts on individual equity securities and narrow-based
indices of equity securities.\2\ Under the revised law, security
futures products \3\ may be traded on a designated contract market or
on a registered derivatives transaction execution facility
("DTF").\4\
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    \1\ 7 U.S.C. 1 et seq., as amended by Pub. L. 106-554, 114 Stat.
2763 (2000). The text of the CFMA may be accessed on the Internet at
http://agriculture.house.gov/txt5660.pdf.
    \2\ See section 251(a) of the CFMA. This trading previously had
been prohibited by Section 2(a)(1)(B)(v) of the Act.
    \3\ The term "security futures product" is defined in section
1a(32) of the Act to mean "a security future or any put, call,
straddle, option, or privilege on any security future." The term
"security future" is defined in section 1a(31) of the Act. Because
the CFMA also provides that options on security futures cannot be
traded until December 21, 2003 at the earliest, security futures are
the only security futures product that may be available for trading
during the next 27 months.
    \4\ The CFMA also specifically prescribes certain dates on which
security futures trading can commence. For example, retail
transactions cannot commence until December 21, 2001. Section 202(a)
of the CFMA; Section 6(g)(5) of the Securities Exchange Act of 1934
("the '34 Act").
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    Section 4d of the Act provides that any person who engages in
soliciting or accepting orders for the purchase or sale of any
commodity for future delivery on or subject to the rules of any
designated contract market or DTF--e.g., for a security futures
product--must be registered with the Commission as: (1) A futures
commission merchant

[[Page 43084]]

("FCM"), if it also accepts any money, securities, or property, or
extends credit in lieu thereof, to margin, guarantee, or secure futures
contracts; or (2) an introducing broker ("IB"), if it does not accept
money or other property to margin, guarantee or secure futures
contracts.\5\ Section 4f(a)(1) of the Act provides that application for
registration as an FCM or IB "shall be made in such form and manner as
prescribed by the Commission." \6\ Pursuant to this authority, the
Commission adopted Rule 3.10, which currently requires that an
applicant for registration as an FCM or IB file prescribed registration
and financial report forms.\7\
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    \5\ See sections 1a(20) and (23) of the Act, which define the
terms "futures commission merchant" and "introducing broker,"
respectively.
    \6\ Prior to the enactment of the CFMA, this provision was found
in section 4f(a) of the Act. The CFMA (at section 252(b)) amended
section 4(f) by redesignating paragraph (a) as paragraph (a)(1) and
by adding new paragraphs (a)(2) and (a)(3) (section 252(b)(2) of the
CFMA) and (a)(4) (section 252(c) of the CFMA).
    \7\ Commission regulations referred to herein are found at 17
CFR Ch. I (2001).
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    However, as a result of the CFMA, new section 4f(a)(2) of the Act
\8\ now provides that, notwithstanding section 4f(a)(1), any BD \9\
that is registered with the SEC shall be registered as an FCM or IB, as
applicable, "effective contemporaneously with the submission of
notice," if:
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    \8\ As set forth in section 252(b) of the CFMA.
    \9\ Because the CFMA speaks in terms of a "broker or dealer,"
the term "BD" as used in this release applies equally to a broker,
a dealer or a person registered as both a broker and a dealer.

    (A) the broker or dealer limits its solicitation of orders,
acceptance of orders, or execution of orders, or placing of orders on
behalf of others involving any contracts of sale of any commodity for
future delivery, on or subject to the rules of any contract market or
registered derivatives transaction execution facility to security
futures products;
    (B) the broker or dealer files written notice with the Commission
in such form as the Commission, by rule, may prescribe containing such
information as the Commission, by rule, may prescribe as necessary or
appropriate in the public interest or for the protection of investors;
    (C) the registration of the broker or dealer is not suspended
pursuant to an order of the Securities and Exchange Commission; and
    (D) the broker or dealer is a member of a national securities
association registered pursuant to section 15A(a) of the '34 Act.

    Accordingly, in a separate Federal Register release, the Commission
proposed to amend Rule 3.10 to provide for FCM and IB notice
registration thereunder.\10\
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    \10\ See Notice Registration as a Futures Commission Merchant or
Introducing Broker for Certain Securities Brokers or Dealers, 66 FR
27476 (May 17, 2001). Section 4k(1) of the Act generally requires
each person who is an associated person ("AP") of an FCM or IB to
register as such. The CFMA exempts from registration the APs of FCMs
and IBs who would be subject to notice registration.
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    New section 4f(a)(3) of the Act \11\ provides a similar exemption
(without the notice filing requirement) from the requirement under
section 4e of the Act to register as a floor broker ("FB") or floor
trader ("FT"). An FB or FT is exempt from registration as such if:
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    \11\ As set forth in section 252(b) of the CFMA.

    (A) the floor broker or floor trader is a broker or dealer
registered with the Securities and Exchange Commission;
    (B) the floor broker or floor trader limits its solicitation of
orders, acceptance of orders, or execution of orders, or placing of
orders on behalf of others involving any contracts of sale of any
commodity for future delivery, on or subject to the rules of any
contract market to security futures products; \12\ and
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    \12\ Of course, an FT is restricted to executing orders for his
or her own account and the Commission does not view this provision
of the CFMA as expanding the scope of activities in which an FT may
engage.
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    (C) the registration of the floor broker or floor trader is not
suspended pursuant to an order of the Securities and Exchange
Commission.

    Persons registered as FCMs or IBs pursuant to the notice
registration procedure of new section 4f(a)(2) and persons who are
exempt from FB or FT registration pursuant to new section 4f(a)(3) are
expressly exempted by new section 4f(a)(4) \13\ from certain enumerated
provisions of the Act, as well as the Commission's rules that were
promulgated under those provisions.\14\ Moreover, such persons are not
required to become members of NFA and the prohibition in NFA's By-Laws
against NFA members transacting business with non-members does not
apply.\15\
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    \13\ As set forth in section 252(c) of the CFMA.
    \14\ Those provisions include: section 4c(b)-- regulation of
commodity options trading by the Commission; Section 4c(d)--dealer
options exemption; Section 4c(e)--Commission authority to ban dealer
options; Section 4c(g)--requirement for contemporaneous written
record of all orders for execution on the floor or subject to the
rules of a designated contract market or DTF; Section 4d--
registration requirements for FCMs and IBs and customer funds
segregation requirement for FCMs; Section 4e--registration
requirement for FBs and FTs; Section 4h--prohibition of
misrepresentation that a person is a member of a registered entity,
that a person is registered with the Commission, or that a futures
contract will be or has been executed on a registered entity;
Section 4f(b)--FCM and IB minimum financial requirements; Section
4f(c)--FCM risk assessment requirement; Section 4j--restrictions on
dual trading in security futures products; Section 4k(1)--
registration requirement for APs of FCMs and IBs; Section 4p--
proficiency testing and ethics training requirements for
registrants; Section 6d--State causes of action under the Act and
Commission right to intervene or appeal; Section 8(d)--Commission's
obligation to investigate commodity marketing conditions and to
furnish reports to producers, consumers and distributors; Section
8(g)--Commission obligation to disclose information concerning
registrants to State governments and political subdivisions thereof;
and Section 16--Commission authority to investigate markets and to
furnish reports to the public on a regular basis. APs of BDs who
limit their futures-related activities to security futures products
are also exempt from registration under the Act and the same
provisions of the Act and rules thereunder cited in this footnote.
See section 252(d) of the CFMA.
    \15\ The final subparagraph of new section 4f(a)(4) provides
that: (1) A person that is notice-registered as an FCM or IB
pursuant to new section 4f(a)(2) or an AP thereof, or that is an FB
or FT exempt from registration under new section 4f(a)(3), need not
become a member of a registered futures association; and (2) a
registered futures association may not prevent its members from
transacting business with a person that is exempt under new sections
4f(a)(2) or (a)(3).
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    In addition to the statutory exemption from enumerated sections of
the Act (and the rules adopted under those sections) granted to BDs
that notice-register as FCMs or IBs under new section 4f(a)(2), or that
are exempt from FB or FT registration under new section 4f(a)(3), the
CFMA authorizes the Commission to further exempt such BDs, by rule,
regulation or order from any provision of the Act or the Commission's
rules, to the extent the exemption is necessary or appropriate in the
public interest and is consistent with the protection of investors. The
CFMA also directs the Commission to determine, by rule or regulation,
the procedures under which an order under new section 4f(a)(4)(B) shall
be granted.\16\
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    \16\ New section 4f(a)(4)(B)(ii) of the Act, as set forth in
section 252(c) of the CFMA. The statute gives the Commission
discretion to decline to entertain an application for such an order.
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    In response to the CFMA's directions to establish rules for
requesting and granting exemptive orders, the Commission proposed the
rule changes the adoption of which is announced by this Federal
Register release.\17\ In the Proposing Release, the Commission also
sought comments regarding specific sections of the Act or provisions of
the Commission's rules, beyond those already specified in the CFMA,
from which such BDs should be made exempt by rule.
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    \17\ See Exemption for Certain Brokers or Dealers from
Provisions of the Commodity Exchange Act and CFTC Regulations, 66 FR
20118 (April 19, 2001) (the "Proposing Release").
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II. Application for an Order Granting Additional Exemptive Relief

    New section 4f(a)(4)(B)(i) of the Act provides that the Commission
may issue

[[Page 43085]]

an order to exempt, conditionally or unconditionally, any BD subject to
notice registration under new section 4f(a)(2) of the Act, or any BD
exempt from floor broker or floor trader registration pursuant to new
section 4f(a)(3), from any provision of the Act or any provision of the
Commission's regulations to the extent that the exemption is necessary
or appropriate in the public interest and is consistent with the
protection of investors. New section 4f(a)(4)(B)(ii) directs the
Commission to determine the procedures by which an exemptive order
under section 4f(a)(4)(B) shall be granted, and vests the Commission
with sole discretion to decline to entertain any application for such
an order.\18\ Accordingly, the Commission proposed, and sought comments
regarding, procedures for applying for an exemptive order under section
4f(a)(4)(B) of the Act.\19\
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    \18\ The CFMA places no corresponding obligation upon the SEC.
    \19\ As noted in the Proposing Release, exemption from the
sections of the Act listed in Section 4f(a)(4)(A) is automatic, and
it is therefore unnecessary for persons to request exemptive orders
with respect to those sections or the rules that were adopted
thereunder.
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    As proposed, Rule 41.41 called for applicants to supply either a
written application or an electronic mail submission containing the
applicant's name, main business address and phone number, information
about the applicant's registration status with the SEC (and assurance
that the registration is not subject to a suspension), the specific
section(s) of the Act or provision(s) of Commission rules from which
exemption is sought, any applicable analogous provisions of the
securities laws and regulations, an explanation of the facts and
circumstances under which the applicant believes that the requested
exemptive relief is necessary or appropriate in the public interest,
and an explanation of the extent to which the requested exemptive
relief is consistent with the protection of investors. The last two
items contain the standards upon which the CFMA requires the Commission
to base the grant of a request for an order. The proposed rule also
stated that the grant or denial of a request is within the Commission's
sole discretion (as specifically provided in the CFMA).
    The Commission received one comment letter in response to the
Proposing Release. The commenter urged that a national securities
exchange should have the right to request an exemptive order under
section 4f(a)(4)(B) on behalf of the exchange's members. The commenter,
itself a national securities exchange, believes it is particularly
qualified to inform the Commission of the potential impact of self-
regulatory organization ("SRO") rules, Federal securities laws and
Commission regulations on the exchange's members. The commenter also
asserted that regulatory efficiency would be enhanced by the submission
of one request for an exemptive order instead of multiple requests, and
the issuance of one order, instead of multiple orders with the
potential for dissimilar treatment of similarly situated requesters.
The Commission agrees with the commenter's rationale and notes that,
under Rule 30.10, the rule permitting petitions for exemption from any
of the Commission's rules governing foreign futures and options
transactions, the Commission considers petitions from a foreign
regulatory agency or SRO on behalf of the agency's regulatees or the
SRO's members, respectively. Accordingly, as adopted, paragraph (c) of
Rule 41.41 reads "A national securities exchange or other securities
industry self-regulatory organization may submit an application for an
order pursuant to this section on behalf of its members." The text of
Rule 41.41 is otherwise adopted as proposed.
    We note for the sake of clarity that an application for an
exemptive order under Rule 41.41 that meets the procedural requirements
of the new rule need not also comply with the requirements of
Rule140.99 ("Requests for exemptive, no-action and interpretative
letters").

III. Delegation of Authority

    In the Proposing Release, the Commission proposed to delegate to
the Director of the Division of Trading and Markets authority to grant
or deny applications for exemptive orders under proposed Rule 41.41.
With respect to the granting and denying of applications for exemptive
orders, the Commission intended this delegation to expedite the
procedure and to place consideration of exemptive orders with the staff
members most directly involved in exemptive matters. The Commission
stated its belief that this delegation will maximize regulatory
efficiency with respect to these proposed rule changes.
    No comments were received regarding the proposed delegation of
authority. Accordingly, new paragraph (a)(8) of Rule 140.93 is adopted
as proposed.

IV. Other Comments

    In addition to suggesting that a national securities exchange be
permitted to request exemptive orders under new section 4f(a)(4)(B) on
behalf of the exchange's members, the sole comment letter received in
response to the Proposing Release also contained two other comments.
The first of these comments asserted that the Commission should exempt
by rule or regulation persons that perform the functions of FBs and FTs
on the floor of a national securities exchange with respect to security
futures from the provisions of the Act and Commission rules thereunder
that are covered by comparable provisions of the '34 Act, SEC
Regulations and applicable exchange rules. The commenter proposed that
the following Commission rules could be thus dispensed with: Rule 1.38
(Execution of transactions); Rule 1.39 (Simultaneous buying and selling
orders of different principals; execution of, for and between
principals); Rule 1.62 (Contract market requirement for floor broker
and floor trader registration); Rule 1.63 (Service on self-regulatory
organization governing boards or committees by persons with
disciplinary histories); Rule 1.64 (Composition of various self-
regulatory organization governing boards and major disciplinary
committees); Rule 1.69 (Voting by interested members of self-regulatory
organization governing boards and various committees); Part 18 rules
(Reports by traders); Rule 155.2 (Trading standards for floor brokers);
Rule 155.5 (Prohibition on dual trading by floor brokers); and Rule 156
(Broker associations).
    We note that the CFMA exempts from section 4j of the Act (which
governs restrictions on dual trading) contract markets notice-
designated as such under section 5f of the Act, which would include
national securities exchanges, national securities associations or
alternative trading systems.\20\ Thus, although designated contract
markets and DTFs will be subject to section 4j of the Act and dual
trading rules thereunder,\21\ the commenter's suggestion with respect
to Rules 155.2 and 155.5 is now moot.\22\
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    \20\ See Designated Contract Markets in Security Futures
Products; Notice Designation Requirements, Continuing Obligations,
Applications for Exemptive Orders, and Exempt Provisions, 66 FR
29517 (May 31, 2001).
    \21\ Proposed Regulation to Restrict Dual Trading in Security
Futures Products, 66 FR 36218 (July 11, 2001).
    \22\ The comment with respect to Rule 1.62 is also moot, as a
result of the enactment of the CFMA and the proposed new regulatory
framework. See note 22, supra.
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    With respect to Rules 1.63, 1.64 and 1.69, these rules concern
corporate governance issues for SROs and, as such, the commenter's
remarks would more effectively be made in a comment

[[Page 43086]]

to the Commission's May 31, 2001 proposal on notice-designation of
contract markets in security futures products and related matters.\23\
The Commission would consider specific exemptive requests under Rule
41.41 as adopted with respect to the other rules mentioned by the
commenter.
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    \23\ See note 20, supra.
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    The other comment was a request for rulemaking regarding the
obligations of national securities exchanges that list security futures
to comply with the Act and Commission regulations regarding contract
market responsibilities. On the same date as the commenter's letter,
the Commission published in the Federal Register such a proposal for
rulemaking.\24\ The Commission believes that that proposal disposes of
this comment.
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    \24\ Ibid.
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V. Related Matters

A. Regulatory Flexibility Act

    The Regulatory Flexibility Act ("RFA"), 5 U.S.C. 601-612,
requires that agencies, in proposing rules, consider the impact of
those rules on small businesses. The rule amendments discussed herein
affect persons registered under notice-registration procedures as FCMs
or as IBs, and persons who are exempt from FB or FT registration
pursuant to new section 4f(a)(3). The Commission has previously
established certain definitions of "small entities" to be used by the
Commission in evaluating the impact of its rules on such entities in
accordance with the RFA.\25\ The Commission previously determined that
registered FCMs are not small entities for the purpose of the RFA.\26\
With respect to IBs, the Commission has stated that it would evaluate
within the context of a particular rule proposal whether all or some
affected IBs would be considered to be small entities and, if so, the
economic impact on them of any rule.\27\
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    \25\ 47 FR 18618-21 (April 30, 1982).
    \26\ 47 FR at 18619-20.
    \27\ 47 FR at 18618, 18620.
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    The amendments, adoption of which is announced herein, do not
impose any new burdens upon persons registered as FCMs or IBs pursuant
to the notice registration procedure of new section 4f(a)(2) and
persons who are exempt from FB or FT registration pursuant to new
section 4f(a)(3). Rather, these amendments establish procedures for
requesting additional exemptive relief from provisions of the Act and/
or the Commission's regulations for such persons. Consequently, the
Commission believes that these rule amendments will in many cases
reduce the burden of compliance by persons notice-registered as FCMs or
IBs and persons who are exempt from FB or FT registration pursuant to
new section 4f(a)(3). Although the Commission specifically sought
comments regarding the impact this rule may have on small entities,
none were received.

B. Paperwork Reduction Act

    New Rule 41.41 contains information collection requirements. As
required by the Paperwork Reduction Act of 1995,\28\ the Commission
submitted a copy of the proposed rules to the Office of Management and
Budget for its review. No comments were received in response to the
Commission's invitation in the proposed rules to comment on any
potential paperwork burdens associated with this regulation.
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    \28\ 44 U.S.C. 3501, et seq.
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C. Cost-Benefit Analysis

    Section 119 of the CFMA amended section 15 of the Act to require
that the Commission, before promulgating a regulation under the Act or
issuing an order, consider the costs and benefits of the Commission's
action in light of five criteria.\29\ The main considerations relevant
to this rule are the first two considerations set forth in the Act,
"protection of market participants and the public" and "efficiency,
competitiveness and financial integrity of the futures markets." The
Commission notes that the CFMA specifically mandates that procedures be
established by which notice-registered FCMs and IBs and persons exempt
from registering as FBs or FTs may seek orders granting additional
exemptive relief beyond that specifically granted by the CFMA to such
persons. The Commission has patterned Rule 41.41 on existing
procedures, and in response to a commenter's request, has provided in
the final rule that a national securities exchange or other securities
industry self-regulatory organization may make an application under the
rule on behalf of its members, potentially saving resources and
expenses of both applicants and Commission staff. Accordingly, in
adopting Rule 41.41 to establish the procedures required by Congress,
the Commission has endeavored to minimize any costs incurred by those
seeking the exemptive relief permitted by the CFMA.
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    \29\ These considerations include: (A) Protection of market
participants and the public; (B) efficiency, competitiveness, and
financial integrity of futures markets; (C) price discovery; (D)
sound risk management practices; and (E) other public interest
considerations.
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Lists of Subjects

17 CFR Part 41

    Customer protection, Reporting and recordkeeping requirements,
Security futures.

17 CFR Part 140

    Authority delegations.

    For the reasons stated in the preamble, the Commission hereby
amends Chapter I of Title 17 of the Code of Federal Regulations as
follows:

PART 41--SECURITY FUTURES PRODUCTS

    1. The authority citation for Part 41 is added to read as follows:

    Authority: 7 U.S.C. 6f and 12a.

    2. Section 41.41 is added to read as follows:


Sec. 41.41  Application for an Exemptive Order Pursuant to Section
4f(a)(4)(B) of the Act.

    (a) Any futures commission merchant or introducing broker
registered in accordance with the notice registration provisions of
Sec. 3.10 of this chapter, or any broker or dealer exempt from floor
broker or floor trader registration pursuant to section 4f(a)(3) of the
Act, may apply to the Commission for an order pursuant to section
4f(a)(4)(B) of the Act granting exemption to such person from any
provision of the Act or the Commission's regulations other than
sections 4c(b), 4c(d), 4c(e), 4c(g), 4d, 4e, 4h, 4f(b), 4f(c), 4j,
4k(1), 4p, 6d, 8(d), 8(g), and 16 of the Act and the rules thereunder.
    (b) An application pursuant to this section must set forth in
writing or in an electronic mail message the following information:
    (1) The name, main business address and main business telephone
number of the person applying for an order;
    (2) The capacity in which the person is registered with the
Securities and Exchange Commission and the person's CRD number (if a
member of the National Association of Securities Dealers, Inc.) or
equivalent self-regulatory organization identification, together with a
certification, if true, that the person's registration is not suspended
pursuant to an order of the Securities and Exchange Commission;
    (3) The particular section(s) of the Act and/or provision(s) of the
Commission's regulations with respect to which the person seeks
exemption;
    (4) Any provision(s) of the securities laws or rules, or of the
rules of a securities self-regulatory organization analogous to the
provision(s);
    (5) A clear explanation of the facts and circumstances under which
the

[[Page 43087]]

person believes that the requested exemptive relief is necessary or
appropriate in the public interest; and
    (6) A clear explanation of the extent to which the requested
exemptive relief is consistent with the protection of investors.
    (c) A national securities exchange or other securities industry
self-regulatory organization may submit an application for an order
pursuant to this section on behalf of its members.
    (d) An application for an order must be submitted to the Director
of the Division of Trading and Markets, Commodity Futures Trading
Commission, 1155 21st Street, NW., Washington, DC 20581, if in paper
form, or to [email protected] if submitted via electronic mail.
    (e) The Commission may, in its sole discretion, grant the
application, deny the application, decline to entertain the
application, or grant the application subject to one or more
conditions.

PART 140--ORGANIZATION, FUNCTIONS, AND PROCEDURES OF THE COMMISSION

    4. The authority citation for Part 140 continues to read as
follows:

    Authority: 7 U.S.C. 2 and 12a.

    5. Section 140.91 is amended by reserving paragraph (a)(7) and by
adding new paragraph (a)(8) to read as follows:


Sec. 140.91  Delegation of Authority to the Director of the Division of
Trading and Markets.

    (a) * * *
    (7) [Reserved]
    (8) All functions reserved to the Commission in Sec. 41.41 of this
chapter. Any action taken pursuant to the delegation of authority under
this paragraph (a)(8) shall be made with the concurrence of the General
Counsel or, in his or her absence, a Deputy General Counsel.
* * * * *

    Issued in Washington, D.C. on August 10, 2001, by the
Commission.
Jean A. Webb,
Secretary of the Commission.
[FR Doc. 01-20629 Filed 8-16-01; 8:45 am]
BILLING CODE 6351-01-P
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