        COMMODITY FUTURES TRADING COMMISSION
        17 CFR Part 190
        RIN 3038-AD99
        Protection of Cleared Swaps Customers Before and After Commodity Broker Bankruptcies

          AGENCY:
          Commodity Futures Trading Commission.

          ACTION:
          Advanced notice of proposed rulemaking; request for comments.

          SUMMARY:
          The Commodity Futures Trading Commission (the “CFTC” or “Commission”) seeks comment on possible models for implementing new statutory provisions enacted by Title VII of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”) concerning the protection of collateral posted by customers clearing swaps.

          DATES:
          Submit comments on or before January 18, 2011.

          ADDRESSES:
          You may submit comments, identified by RIN number 3038-AD99, by any of the following methods:
          • Agency Web site, via its Comments Online process: http://comments.cftc.gov. Follow the instructions for submitting comments through the Web site.
          • Mail: David A. Stawick, Secretary of the Commission, Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581.
          • Hand Delivery/Courier: same as mail above.
          • Federal eRulemaking Portal: http://www.regulations.gov. Follow the instructions for submitting comments.

          Please submit your comments by only one method.

          All comments must be submitted in English, or if not, accompanied by an English translation. Comments will be posted as received to http://www.cftc.gov. You should submit only information that you wish to make available publicly. If you wish the Commission to consider information that you believe is exempt from disclosure under the Freedom of Information Act, a petition for confidential treatment of the exempt information may be submitted according to the procedures established in CFTC Regulation 145.9, 17 CFR 145.9.

          The Commission reserves the right, but shall have no obligation, to review, pre-screen, filter, redact, refuse or remove any or all of your submission from www.cftc.gov that it may deem to be inappropriate for publication, such as obscene language. All submissions that have been redacted or removed that contain comments on the merits of the rulemaking will be retained in the public comment file and will be considered as required under the Administrative Procedure Act and other applicable laws, and may be accessible under the Freedom of Information Act.

          FOR FURTHER INFORMATION CONTACT:

          Robert B. Wasserman, Associate Director, Division of Clearing and Intermediary Oversight (DCIO), at 202-418-5092 or rwasserman@cftc.gov; Martin White, Assistant General Counsel, at 202-418-5129 or mwhite@cftc.gov; or Nancy Liao Schnabel, Special Counsel, DCIO, at 202-418-5344 or nschnabel@cftc.gov. in each case, also at the Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581.

        SUPPLEMENTARY INFORMATION:
        I. Introduction
        This Advanced Notice of Proposed Rulemaking (“ANPR”) is intended to obtain comment from interested parties concerning the appropriate model for protecting the margin collateral posted by customers clearing swaps transactions. As discussed in more detail below, the statutory language in Dodd-Frank concerning the protection of swaps customer margin is substantially similar, though not identical, to analogous provisions in Section 4d(a) of the Commodity Exchange Act (“CEA”) 1
           applicable to the protection of collateral posted by customers with respect to exchange-traded futures. The Commission therefore is seeking comment on whether to adopt a similar model to protect the margin collateral posted by customers clearing swaps transactions as it currently employs with respect to exchange-traded futures, or whether another model is appropriate.

            1 7 U.S.C. 6d(a).

        Section 4d(f)(2) of the CEA,2
           as added by Section 724 of Dodd-Frank, provides that “property of a swaps customer [received to margin a swap]* * * shall not be commingled with the funds of the futures commission merchant or be used to margin, secure or guarantee any trades or contracts of any swaps customer or person other than the person for whom the same are held.3
           Section 4d(f)(6) of the CEA makes it unlawful for a depository, including a derivatives clearing organization (“DCO”), that has received such swaps customer property “to hold, dispose of, or use any such * * * property as belonging to * * * any person other than the swaps customer of the futures commission merchant.” 4

            2 7 U.S.C. 6d(f)(2).

            3 Section 4d(f)(3)(A) of the CEA provides an exception permitting commingling “for convenience.”

            4 7 U.S.C. 6d(f)(6) (emphasis added). This section was added by Section 724(a) of Dodd-Frank, Public Law 111-203, 124 Stat. 1376.

        The provisions applicable to the margin posted by exchange-traded futures customers are similar, but not identical. Section 4d(a)(2) provides that “property received [by a futures commission merchant] to margin, guarantee or secure the [exchange-traded] contracts of any customer of such [futures commission merchant] * * * shall not be commingled with the funds of such commission merchant or be used to guarantee the trades or contracts * * * of any person other than the one for whom the same are held.” 5

           Section 4d(b) makes it unlawful for a DCO that has received such customer property “to hold, dispose of, or use any such * * * property as belonging to * * * any person other than the customers of such futures commission merchant.”

            5 Section 4d(a)(2) provides a similar exception permitting commingling “for convenience.”.

        Commission Regulation (“Reg. § ”) 1.22 6
           prohibits a futures commission merchant (“FCM”) from using, or permitting the use, of one futures' customer's funds to margin, guarantee or secure another customer's futures trades or contracts. Thus, if a futures customer sustains losses sufficient to cause it to have a debit balance (i.e., the customer owes the FCM money), the FCM must deposit its own capital to “top up” the loss. Pursuant to existing industry custom and Reg § 1.20(b), however, futures commission merchants (“FCMs”) segregate futures customer property posted as collateral with a DCO on an omnibus basis: Such property is treated separately from the property of the FCM, but futures customers are treated as a group, rather than individually.

            6 17 CFR 1.22.

        Thus, if a futures customer suffers sufficient losses that the customer's debit balance exceeds the FCM's available capital, and such customer (the “defaulting customer”) fails to promptly pay such loss, the FCM may, as a practical matter, be unable to “top up” the loss, and the FCM may be unable to make a required payment to a DCO with respect to that FCM's customer account. Such an FCM would then be a defaulter to the DCO (a “Defaulting FCM”). In case of such an FCM default in the futures customer account, the DCO is permitted to use the collateral of all customers of the Defaulting FCM to meet the net customer obligation of the Defaulting FCM to the DCO (including the use of any customer gains to meet customer losses), without regard to which customers gained or lost, or which customers defaulted or made full payment.
        In such a case, customers of the Defaulting FCM other than the defaulting customer may lose collateral they have posted with the Defaulting FCM, and/or gains on their positions. The risk these other customers face shall be referred to as “fellow-customer risk.”
        II. Maximizing Customer Protection and Minimizing Cost
        In considering how to implement Section 4d(f) of the Dodd-Frank Act, the Commission and its staff have heard countervailing concerns from various stakeholders. Some customers have noted that, in the context of uncleared swaps that they currently engage in—and may be obligated to clear under Dodd-Frank 7
          —they are able to negotiate for individual segregation, with independent third parties, of collateral that they post for such uncleared swaps. These customers contend that it is inappropriate that they should be subject to an additional risk (fellow-customer risk) when clearing their positions.8
           Pension funds, in particular, are concerned about their obligations under the Employee Retirement Income Security Act, and about having their collateral used to subsidize others.9

            7 See generally CEA 2(h), added by Dodd-Frank 723(a).

            8 See, e.g., Staff Roundtable on Individual Customer Collateral Protection (“Roundtable”) at 20-21 (Statement of Mr. Szycher), 12, 79 (Statements of Mr. Kaswell), 10 (Statement of Mr. Thum), available at
            http://www.cftc.gov/LawRegulation/DoddFrankAct/OTC_6_SegBankruptcy.html.

            9 Roundtable at 18 (Statement of Mr. Szycher).

        FCMs and DCOs, on the other hand, point out that models of protecting swaps customer collateral that are different from the current model for protecting futures customer collateral would bring significant added costs, which they aver would ultimately be borne by the customers. Moreover, the use of fellow-customer collateral is included in existing DCO models for dealing with member defaults. The Commission has proposed to require DCOs to maintain default resources sufficient to

          [e]nable the derivatives clearing organization to meet its financial obligations to its clearing members notwithstanding a default by the clearing member creating the largest financial exposure for the derivatives clearing organization in extreme but plausible market conditions.10

              10 See Financial Resources Requirements for Derivatives Clearing Organizations, 75 FR 63113, 63118 (proposed regulation 39.11(a)(1)) (Oct. 14, 2010).

        Systemically-important DCOs would be required to maintain default resources sufficient to cover a default by the two clearing members creating the largest combined financial exposure in such conditions.11

            11 Id. at 63119 (proposed regulation 39.29(a)).

        Typically, DCOs use a variety of resources in addressing defaults arising from a member's customer account.12
           These resources, which are frequently referred to as a “waterfall,” typically include, in order, the property of the Defaulting Member, the margin posted on behalf of all of that  members' customers, a portion of the capital of the DCO, and the default fund contributions of other members of the DCO.13

            12 Customers would not be exposed to loss in the case of a default arising from their FCM's proprietary account.

            13 See, e.g., CME Rule 802.

        If the collateral of non-defaulting swaps customers is not available as a default resource, DCOs will need to change their models for sizing their default waterfalls, and/or the size of the components of those default waterfalls. One means to do this would be to increase the collateral required to margin each customer's positions. One DCO estimated that it might need to increase collateral from a 99% confidence level to a 99.99% confidence level, which would cause an increase in required collateral of approximately 60%.14
           These increases in required margin levels would be passed on to customers, as an FCM is required to collect margin from a customer at a level no less than that imposed by the clearing house on the clearing member FCM. The Commission requests that DCOs provide data in support of their assertions.

            14  See, e.g., Roundtable at 137-138 (Colloquy between Ms. Taylor and Mr. Maguire).

        An alternative approach to reacting to changes in the model for sizing default waterfalls would be to increase clearing members' default fund contributions. FCMs note that if they are required to commit added capital to clearing, they would pass such costs on to customers. Certain models for protecting collateral posted by customers clearing swaps could also cause significant added administrative costs, in requiring more transactions per customer every day, which costs would also be passed on to customers.15
           The Commission requests that FCMs provide data supporting these assertions.

            15  See, e.g., Roundtable at 62-73 (Statements of Ms. Burke).

        The Commission is seeking to achieve two basic goals: Protection of customers and their collateral, and minimization of costs imposed on customers and on the industry as a whole. It is considering four models of achieving these goals with respect to cleared swaps. These are listed in order below, from most protective of customer collateral to least protective of customer collateral.

        Each of these various models would potentially impose different levels of costs upon the various parties—i.e., customers, FCMs, and DCOs—both pre- and post-default. Accordingly, the Commission seeks to obtain further information about the costs and benefits of such models.
        III. Description of the Models

        The Commission seeks comment on each of the following four potential models, as well as any additional models that may be proposed by commenters:

        (1) Full Physical Segregation—Each customer's cleared swaps account, and all property collateralizing that account, is kept separately for and on behalf of that cleared swaps customer, at the FCM, at the DCO, and at each depository.
        a. Impact on Customers' Risk: Each customer is protected from losses on the positions or investments of any other customer.
        b. Impact on DCO Default Resources: The collateral attributable to any non-defaulting customer is not available as a DCO default resource
        (2) Legal Segregation With Commingling—The collateral of all cleared swaps customers of an FCM member of a DCO is kept on an omnibus basis, but is attributed to each customer based on the collateral requirements, as set by the clearinghouse, attributable to each customer's swaps.
        a. Process: Payments and collections of both initial margin and variation margin between the DCO and its member FCMs customer accounts are made on an omnibus basis. Each FCM member reports to the DCO, on a daily basis, the portfolio of rights and obligations attributable to each cleared swaps customer. The performance bond collateral required at the DCO for each customer's swaps is a function, defined by the DCO, of that portfolio of rights and obligations. The collateral required for all of an FCM member's customers is the sum of the collateral requirements for each of such customers.
        b. Posting Collateral:

        i. The FCM may post the total required customer margin on an omnibus basis, without regard to the customer to whom any particular item of collateral (e.g., a particular security) belongs.
        ii. If the FCM loans to a customer any portion of the property necessary to margin that customer's positions, that collateral is treated at the DCO as belonging to the customer, and at the FCM as a debt from the customer to the FCM.
        iii. The DCO may require an FCM to post its own capital as collateral for its guarantee of its customers.
        c. Use of Collateral in Case of Default—If the FCM defaults, the DCO must treat each customer's swaps positions, and related margin (based on the positions reported as of the day previous to the default) individually, debiting each customer's account with losses attributable to that customer's positions, and crediting each customer's account with gains attributable to that customer's positions. However, if the value of the margin account is reduced below the required level as a result of market fluctuations in the value of the collateral, the margin attributed to each customer would be adjusted accordingly on a pro rata basis. The DCO has recourse to any collateral posted by the FCM as part of its own capital.
        d. Transfer or Return of Positions and Collateral—The DCO may, at its election, transfer the swaps positions and related collateral of any or all of the defaulting FCM's customers to a willing transferee, or liquidate such swaps positions and return the remaining collateral to the FCM (or its trustee in bankruptcy).
        e. Impact on Customers' Risk—Each customer of the defaulting FCM is protected from losses on the positions of other customers, but bears some risk of loss on the value of collateral (subject to the investment restrictions of Commission Regulation 1.25).16

            16 17 CFR 1.25.

        f. Impact on DCO Default Resources—The remaining collateral attributable to each of the defaulting FCM's customers is not available as a DCO Default Resource.
        (3) Moving Customers to the Back of the Waterfall—This model is similar to Model 2 above, Legal Segregation With Commingling, with two modifications:
        a. The DCO may use the remaining collateral attributable to each of the defaulting FCM's customers as a DCO default resource.
        b. Before using the remaining collateral attributable to any customer, however, the DCO must first apply (i) the DCO's contribution to its default resources from its own capital and (ii) the guarantee fund contributions of all members of the DCO.
        c. Impact on Customers' Risk—Each customer of the defaulting FCM is protected from losses on the positions of other customers, except in the most extreme of circumstances (a default which consumes the DCO's guarantee fund), in which case the customers are at risk of losing their collateral. Customers also bear some risk of loss on the value of collateral (subject to the investment restrictions of Regulation 1.25).
        d. Impact on DCO Default Resources—The remaining collateral attributable to each of the defaulting FCM's customers is available as a DCO Default Resource. Because the total required default resources (including the DCO's contribution and the guarantee fund) are substantial,17
           the remaining collateral of customers will only be used in the case of an extremely large default.

            17 See supra footnotes 10-11.

        (4) Baseline Model—The current approach to futures. The rights and obligations arising out of the cleared swaps positions of all cleared swaps customers of an FCM member of a DCO, as well as the money, securities and other property collateralizing such rights and obligations, are held at the DCO on an omnibus basis. The DCO has recourse to all such collateral in the event of any failure of the FCM member to meet a margin call (initial or variation) with respect to the FCM's cleared swaps customer account at that DCO.
        a. Impact on Customers' Risk—Each customer of the defaulting FCM is exposed to loss of their collateral due to losses on the positions of other customers. Customers also bear some risk of loss on the value of collateral (subject to the investment restrictions of Regulation 1.25).
        b. Impact on DCO Default Resources—The remaining collateral attributable to each of the defaulting FCM's customers is fully available as a DCO default resource, and may be used before the DCO's contribution or the default fund contributions of other clearing members.
        IV. Cost and Benefit Questions
        The Commission seeks comment on all of the following questions from all members of the public, but will direct specific questions to three particular groups of stakeholders:
        (1) Cleared Swaps Customers, including asset management firms and others who may act on their behalf.
        (2) FCMs who currently intermediate swaps on behalf of customers, or who intend to do so in the future, or trade organizations with FCM members.
        (3) DCOs.
        1. For Cleared Swaps Customers
        a. What are the benefits of each of the models relative to the baseline model and relative to other models?
        b. What costs would you expect to incur for each of the models relative to the baseline model? Please provide a detailed basis for that estimate.
        c. How should the Commission balance such costs and benefits?
        2. For FCMs
        For Each Model (Other Than the Baseline Model)
        a. Compliance:

        i. What compliance activities (including gathering of information) would you need to perform as a result of that model that you do not perform now (i.e., as part of the baseline model).

        ii. What is a reasonable estimate of the initial and annualized ongoing cost of such incremental activities (relative to the baseline model) for your institution? Please provide a detailed basis for that estimate.
        iii. How can such costs be estimated industry-wide? Please provide a detailed basis for that estimate?
        b. Risk environment:
        i. How do you see the industry adapting to the risk changes attendant to the model?
        ii. What types of costs would you expect your institution to incur if the industry adapts to that model in the most efficient manner feasible? How are these costs different from the costs you would incur under the baseline model?
        iii. What is a reasonable estimate of the initial and annualized ongoing incremental cost incurred by your institution? Are these costs the same for each FCM clearing member, or a function of activity level? Please provide a detailed basis for that estimate.
        iv. How can such costs be estimated industry-wide? Please provide a detailed basis for that estimate?
        c. What benefits does the model present relative to the baseline model, and relative to other models?
        3. For DCOs
        For Each Model (Other Than the Baseline Model)
        a. Compliance (internal):

        i. What compliance activities (including gathering of information) would you need to perform as a result of that model that you do not perform now (i.e., as part of the baseline model)?
        ii. What is a reasonable estimate of the initial and annualized ongoing cost of such incremental activities (relative to the baseline model) for your DCO? Please provide a detailed basis for that estimate.
        b. Compliance (members):

        i. What compliance activities (including gathering of information) would you expect each of your members to perform as a result of that model that they do not perform now (i.e., as part of the baseline model).
        ii. What is a reasonable estimate of the initial and annualized ongoing cost of such incremental activities (relative to the baseline model) for each such member? Do these costs vary with the member's level of activity? How? Please provide a detailed basis for your estimates.
        iii. What is a reasonable estimate of the initial and ongoing costs of such activities across your membership? May there be some members who do not incur these costs? Please provide a detailed basis for these estimates.
        c. Changes to default management structure:
        i. What changes to your default management structure (relative to the baseline model) would the model require?
        ii. Costs to the DCO
        1. What types of costs would these changes impose on the DCO if the industry adapts to that model in the most efficient manner feasible? How are these costs different from the costs the DCO would incur under the baseline model?
        2. What is a reasonable estimate of the initial and annualized ongoing incremental cost to the DCO? Please provide a detailed basis for that estimate.
        iii. Costs to members
        1. What types of costs would these changes to the DCO's default management impose on members if the industry adapts to that model in the most efficient manner feasible? How are these costs different from the costs the members would incur under the baseline model?
        2. What is a reasonable estimate of the initial and annualized ongoing incremental cost to each member? Are these costs the same for each member, or are they a function of activity level? Please provide a detailed basis for that estimate.
        3. What is a reasonable estimate of the initial and ongoing costs of such activities across your membership? May there be some members who do not incur these costs? Please provide a detailed basis for these estimates.

        iv. To what extent do the costs identified above represent increased costs to the system as a whole (i.e., customers, FCMs, and DCOs considered together) and to what extent do they represent a shift of risk and/or cost between those groups?
        b. What benefits does the model present relative to the baseline model, and relative to other models?
        For all commenters:
        2. Optional Models

        A point frequently raised is that individual customer protection should be made available on an optional basis. There are questions as to how such a model could be implemented, and how the costs imposed by a customer obtaining individual protection could be attributed to—and charged to—that customer. For example, in the “Full Physical Segregation” and “Legal Segregation with Commingling” models discussed above, a significant portion of the marginal costs may arise from the fact that the collateral posted by the opting-out customer would not be available in the event of a default caused by other customers of the same FCM. How could a payment by the opting-out customer be used to address the changes to the DCO's default management structure that would be attributable to that opting out? Considered from another perspective, how much cost would be avoided from an optional as contrasted to a mandatory implementation of each of the models above? Also, what would be the effect on customers of an FCM in bankruptcy if different DCOs of which the FCM was a member adopted different voluntary models? If a marketplace in which varying models were in use was otherwise desirable, what changes to the Regulation Part 190 rules regarding bankruptcy account classes could or should be made to accommodate such variety?
        3. Moral Hazard: Customers risk-managing their FCMs:

        Another point frequently raised is that customers should risk-manage their FCMs, and provide market discipline by doing business with FCMs that pose less risk. DCOs already monitor the eligibility of their members, supervising the member's risk relative to collateral and capital, and considering members' risk management.18
           The Commission is aware of concerns that, if the risk that customers will lose swaps collateral posted at an FCM is minimized, there will be less incentive for FCMs to maintain capital in excess of the minimum levels required by the Commission and the DCOs of which such FCMs are members. These concerns lead to a number of questions:

            18 See Sections 5b(c)(2)(C)(i)(I), (c)(2)(C)(ii), (c)(2)(D) of the CEA (participant eligibility and risk management).

        a. To what extent would each model lead to moral hazard concerns? How, if at all, could such concerns be addressed?
        b. Are the capital requirements currently imposed by the Commission on FCMs and by DCOs on their clearing members sufficient? If not, what steps should DCOs or the Commission take to address this insufficiency?
        c. Do the rules and procedures of DCOs currently provide adequate tools and incentives for DCOs to supervise their clearing members so as to mitigate the risk of default? If not, what steps should DCOs or the Commission take to address this inadequacy?

        In analyzing costs, the Commission needs to consider the additional cost incurred by customers risk-managing their FCMs on an initial and ongoing basis.19
           This leads to a number of questions:

            19 Cf. Roundtable at 45-46 (Statement of Mr. Prager) (DCOs have advantages over clients in conducting risk management of FCMs).

        d. What information would each customer need, on an initial and an ongoing basis, to effectively manage the risk posed by fellow-customers at an FCM?
        e. What information should be provided to each customer regarding the FCM's risk management policies, and how those policies are, in fact, implemented with respect to other customers, on both an initial and ongoing basis?
        f. What information should be provided to each customer regarding fellow-customer risk, on both an initial and ongoing basis?
        g. What is or would be the cost, per customer, on an annualized basis, of conducting this risk management?
        h. What is or would be the cost to the industry as a whole, on an annualized basis, of customer-conducted FCM risk management?
        V. Other Questions
        1. Did Congress evince an intent as to whether the Commission should adopt any one or more of these models?
        How do commenters view Interpretation 85-3, and how should it inform the rulemaking on segregation of collateral for cleared swaps customers? (A copy of this interpretation is attached as an appendix to this Request for Comment.)

          Issued in Washington, DC, on November 19, 2010, by the Commission.
          David A. Stawick,
          Secretary of the Commission.

          APPENDIX
          Interpretative Statement, No. 85-3, Regarding the Use of Segregated Funds by Clearing Organizations Upon Default by Member Firms. (OGC Aug. 12, 1985)
          Use of Segregated Funds by Clearing Organizations Upon Defaults By Member Firms

          The rights of a clearing organization to make use of margin funds deposited by a clearing member firm that has defaulted on an obligation to the clearing organization are defined by the rules and by-laws of the clearing organization subject to limitations imposed by the Commodity Exchange Act (“Act”) and the rules and regulations promulgated thereunder, 17 CFR 1, et seq. (1984). Clearing organization rules and by-laws commonly provide that upon the failure of a member firm to satisfy an obligation owed the clearing organization, the clearing organization may use all margin funds and property of the member firm within the clearing organization's custody to satisfy the firm's obligations to the clearing organization. In our view, Section 4d(2) of the Act does not preclude the clearing organization from applying all margin deposits of a defaulting firm to discharge such firm's obligations on behalf of the customer account for which they were deposited with the clearing organization. The clearing organization may be precluded from exercising such rights in limited circumstances, however, by reason of its knowledge of or participation in a violation of the Act or other provision of law by the defaulting firm or other parties that renders its rights to such funds inferior to those of the clearing firm's customers.
          Section 4d(2) of the Act, 7 U.S.C. 6d, defines the manner in which futures commission merchants (“FCMs”), clearing organizations, and other depositories of funds deposited by commodity customers to margin or settle futures transactions, or accruing to customers as the result of such trades, must deal with such funds. Section 4d(2) requires that FCMs “treat and deal with” funds deposited by a customer to margin or settle trades or contracts or accruing as the result of such trades or contracts “as belonging to such customer,” separately account for such funds, and refrain from using such funds “to margin or guarantee the trades or contracts, or to secure or extend the credit, of any customer or person other than the one for whom the same are held.” Section 4d(2) specifically authorizes FCMs to commingle such funds, for purposes of convenience, in the same account or accounts with any bank, trust company or clearing organization of a contract market. This provision also authorizes withdrawals from such funds of “such share thereof as in the normal course of business shall be necessary” to margin, guarantee, secure, transfer, adjust, or settle trades or contracts, “including the payment of commissions, brokerage, interest, taxes, storage and other charges, lawfully accruing in connection with such contracts and trades.”
          The final sentence of Section 4d(2) defines the obligations of clearing organizations, depositories and all other recipients of customer margin funds and property in the following terms:
          It shall be unlawful for any person, including but not limited to any clearing agency of a contract market and any depository, that has received any money, securities, or property for deposit in a separate account as provided in paragraph (2) of this section, to hold, dispose of or use any such money, securities, or property as belonging to the depositing futures commission merchant or any person other than the customers of such futures commission merchant.
          This provision prohibits clearing organizations and all other depositories of customer funds from using such funds to discharge proprietary obligations of the depositing FCM or for any purpose other than to margin, guarantee, secure, transfer, adjust, or settle trades or contracts of the depositing firm's customers, including the payment of commissions and other charges “lawfully accruing in connection with” such contracts and trades.
          In our view, Section 4d(2)'s provisions with respect to clearing organizations' treatment of customer funds must be construed in light of the fact that clearing organizations' direct customers are, generally, clearing firms, not the ultimate “customers” who entered into the futures contracts and options positions accepted for clearance by the clearing organization. Margin deposits posted with clearing organizations by their member firms normally consist, at least in part, of funds belonging to clearing firm customers, whose margin deposits were posted with the clearing firm and subsequently drawn upon by the clearing firm to satisfy its margin obligations to the clearing organization. The clearing organization normally has no direct dealings with such customers and has knowledge neither of their specific identities nor of the extent of their respective ownership interests in margin funds posted by its clearing firms. Consequently, to the extent that Section 4d(2) of the Act requires that clearing organizations use margin deposits on behalf of the “customers of such [depositing] futures commission merchant,” we are of the view that it requires only that the clearing organization use such funds as the property of the clearing firm's customers collectively, but does not require the clearing organization to treat such funds as the property of the particular customers who deposited them or to whose positions they have accrued.

          This view accords with the legislative history of Section 4d(2) of the Act. The Act did not specifically govern the treatment of commodity customer funds by clearing organizations and other depositories of customer margin funds until the enactment of Section 4d(2)'s final paragraph, quoted above, in 1968. The legislative history of this provision reflects Congress's intention to ensure that customer funds would not be used to discharge the general obligations of the FCM or otherwise diverted from their lawful purposes. According to the Senate Report, for example, the amendment was proposed “to prohibit expressly customers' funds from being used to offset liabilities of the futures commission merchants or otherwise being misappropriated.” S. Rep. No. 947, 90th Cong. 2d Sess. 7 (1968). See also H.R. Rep. No. 743, 90th Cong., 1st Sess. 4-5 (1967).

          The Commodity Exchange Authority's Administrator described the 1968 amendment as one which would afford additional protection against a situation presented in the De Angelis salad oil case “in which one of the banks actually took over funds of customers of one of the brokerage firms to offset liabilities of the firm.” Amend the Commodity Exchange Act: Hearings on H.R. 11930 and H.R. 12317 Before the House Comm. on Agriculture 57 (1967) (Testimony of Alex C. Caldwell, Administrator, Commodity Exchange Authority). The proposed amendment would require that banks and other depositories “keep separate the funds of the customers and of the brokerage firms which they do not have to do now.” Id. The Act's legislative history thus evinces an intention that depositories treat customers' funds as the property of the customers of the depositing FCM, as distinguished from the FCM's own property or that of any other person.

          Our conclusion that Section 4d(2) generally allows clearing organizations to treat customer funds as the property of the depositing firm's customers, collectively, without regard to the respective interests of particular customers, also finds support in the legislative history of the Bankruptcy Reform Act of 1978. In recommending new provisions to govern bankruptcy liquidations of commodity firms, the Commission described the clearing house system then (and now) operant in the futures market as one in which “a clearing house deals only with its clearing members” and thus “does not know the specific customer on whose behalf a particular contract was entered into by one of its clearing members.” Bankruptcy Act Revision: Hearings on H.R. 31 and H.R. 32 Before the Subcomm. on Civil and Constitutional Rights, House Comm. on the Judiciary, 94th Cong., 2d Sess. 2377, 2395 (Statement of William T. Bagley) (1976). The Commission explained that this system allows a clearing organization to use “whatever funds are on deposit with it on behalf of customers to meet variation margin calls with respect to customers' trades or contracts” and, following a clearing member default, the defaulting firm's “original margin deposits are immediately available to offset any losses the clearing house might incur” as a result of answering variation margin calls to the defaulting firm. Id. at 2397, 2405.
          The Commission's regulations are also consistent with the view that the clearing organization's direct obligations under Section 4d(2) include an obligation to treat customer funds as the property of the depositing FCM's customers but do not include a duty to separately account for or to employ such funds as the property of particular customers. Regulation 1.20(b), 17 CFR 1.20(b) (1984), for example, requires that a clearing organization separately account for and segregate all customers' funds received from a member of the clearing organization to purchase, margin, guarantee, secure or settle the trades, contracts or commodity options of the clearing member's customers and all money accruing to such customers as the result of such trades, contracts, or commodity options “as belonging to such commodity or option customers,” and specifies that a clearing organization shall not hold, use or dispose of such customer funds “except as belonging to such commodity or option customers.” 17 CFR 1.20(b) (1984).1

              1 To the extent that the final sentence of Regulation 1.20(a), 17 CFR 1.20(a) (1984), may be read to require that clearing organizations treat customer funds as the property of the particular customer who deposited them, we consider it inconsistent with Regulation 1.20(b), which more specifically addresses the obligations of clearing organizations, and with this agency's view of clearing organizations' obligations. The current language of Regulation 1.20(a)'s final sentence apparently reflects an unintentionally broad modification of that provision made in connection with amendments of a number of Commission regulations to reflect establishment of the Commission's exchange-traded options program. Until these 1981 revisions of the Commission's regulations, Regulation 1.20(a)'s last sentence referred to “customers” in the plural, made no express reference to clearing organizations and was substantially consistent with the final sentence of Section 4d(2). The Commission's proposed rules regarding exchange-traded options would have modified this language only to the extent of including option customers within its protections: “Nor shall any such funds be held, disposed of, or used as belong [sic] to the depositing futures commission merchant or any person other than the commodity or option customers of such futures commission merchant.” 46 FR 33315 (1981). As adopted, however, the Commission's final rules concerning the regulation of exchange-traded commodity options included Regulation 1.20(a)'s final sentence in its current form, a modification that apparently was not intended to be substantive. In the preamble to these rules, the Commission stated that it was adopting revised Regulations 1.20 through 1.30 “essentially as proposed.” 46 FR 54508 (1981). We suggest that a technical amendment to Regulation 1.20(a) be proposed in the near future to conform its final sentence to its intended meaning.

          Regulation 1.22, 17 CFR 1.22 (1984), which precludes FCMs from using or permitting the use of “the customer funds of one commodity and/or option customer to purchase, margin, or settle the trades, contracts, or commodity options of, or to secure or extend the credit of, any person other than such customer or option customer,” refers only to FCMs and, hence, does not govern clearing organizations or other depositories of customer funds.2

              2 See also Regulation 1.36, which governs recordkeeping concerning securities and other property received from customers and option customers. Regulation 1.36 requires FCMs to maintain a record, showing “separately for each customer or option customer” the securities or property received, name and address of the depositing customer and other pertinent information. By contrast, clearing organizations with which clearing member firms deposit securities or property belonging to particular customers or option customers of such members in lieu of cash margin are required to maintain records “which will show separately for each member” the date of receipt of such securities and property and other pertinent data but are not required to maintain records of the names of the particular customers of the member firm from whom such securities and property were received.

          Our conclusion that Section 4d(2) does not preclude a clearing organization from using all margin funds deposited by a clearing member firm to satisfy obligations arising from the account for which such funds were deposited reflects the essential function of margin deposits in the futures markets' clearing system. Clearing organizations generally stand as guarantors of the net futures and options obligations of the member firms and require margin deposits as security for the performance of obligations which, in the event of a member's default, the clearing organization must discharge. Margin deposits at the clearing level thus facilitate the clearing organization's performance of its guarantee obligations, serving to confine losses stemming from a clearing firm default to the defaulting firm and preventing their spread to the market as a whole.
          In sum, we conclude that clearing organization rules and by-laws awarding clearing organizations the right to apply all customer margin funds within their custody to satisfy nonproprietary obligations of defaulting clearing firms are not inconsistent with Section 4d(2) of the Act or the Commission's regulations. Clearing organizations' rights with regard to the use of customer margin deposits of their member firms are not, however, wholly unlimited. A clearing organization may not use the margin deposits of one clearing member firm to satisfy obligations of another clearing firm or of any other person. In addition, as noted above, the final paragraph of Section 4d(2) of the Act was enacted to present use of customer funds to satisfy the FCM's own obligations. Consequently, customer margin funds deposited by a member FCM may not be used to margin, guarantee or settle the futures or options transactions or to satisfy any other proprietary obligation of the depositing firm. Such funds must be used to margin, guarantee, secure, or settle trades or contracts of the depositing FCM's customers or for charges “lawfully accruing in connection with” such contracts and not for any other purpose.3
             Finally, a clearing organization's rights with respect to the use of customer margin funds may be limited in particular circumstances by reason of the clearing organization's knowledge of or participation in a violation of the Act or other provision of law that precludes it from obtaining rights to such funds superior to those of one or more customers of the defaulting clearing member. Such a violation could occur, for example, in circumstances in which the clearing organization received particular margin funds with actual knowledge that the depositing firm has breached its duty under Section 4d(2) to segregate and separately account for customer funds and that the funds in question have been deposited with it to margin, secure, guarantee or settle the trades or contracts of a person other than the customer who deposited such funds or to whom they have accrued. The clearing organization's knowing participation in such use of customer funds could subject it to aiding and abetting liability under Section 13(a) of the Act and would preclude it from obtaining rights to such funds superior to those of the innocent customer.

              3 This prohibition includes a proscription against the use of customer margin funds deposited in connection with futures or option transactions to discharge obligations, including customers' obligations, incurred in connection with transactions that are not within the purview of the Act or the rules and regulations promulgated thereunder.

          Statement of Chairman Gary Gensler: Protection of Cleared Swaps Customers Before and After Commodity Broker Bankruptcies

          I support the advance notice of proposed rulemaking concerning protection of collateral of customers entering into cleared swaps. There has been much public input into these matters, but I think it is appropriate to have a formal ANPR soliciting input on a number of options and questions on how best to protect customers' collateral in the event of another customer's default. This is particularly important as we move forward to implement Congress's mandate that for the first time standardized swaps must be cleared. I am hopeful that we will hear from a broad range of market participants, including clearinghouses, futures commission merchants, pension funds, asset managers and other end-users, on the costs, benefits and feasibility of various approaches to protecting customers' money.

      [FR Doc. 2010-29836 Filed 12-1-10; 8:45 am]
      BILLING CODE 6351-01-P


        DEPARTMENT OF COMMERCE
        National Oceanic and Atmospheric Administration
        50 CFR Part 635
        [Docket No.  030613152-3152-01 ; I.D. 051903B]
        RIN 0648-AQ38
        Atlantic Highly Migratory Species; Atlantic Bluefin Tuna Quota Specification, General Category Effort Controls, and Permit Revisions

          AGENCY:
          National Marine Fisheries Service (NMFS), National Oceanic and Atmospheric Administration (NOAA), Commerce.

          ACTION:
          Proposed initial 2003 quota specifications, General category effort controls, permit revisions, and definition of the management boundary area; request for comments.

          SUMMARY:
          NMFS proposes initial 2003 fishing year specifications for the Atlantic bluefin tuna (BFT) fishery to set BFT quotas for each of the established fishing categories, to set General category effort controls, to allocate 25 metric tons of BFT to account for incidental catch of BFT by pelagic longline vessels in the vicinity of the management boundary area, to define the management boundary area and applicable restrictions, and to revise permit requirements to allow General category vessels to participate in registered recreational HMS fishing tournaments and to allow permit applicants a 10-day period to make permit category changes to correct errors.  The proposed initial quota specifications, including the quota allocation to account for incidental catch of BFT by pelagic longline vessels in the vicinity of the management boundary area and the General category effort controls, are necessary to implement recommendations of the International Commission for the Conservation of Atlantic Tunas (ICCAT), as required by the Atlantic Tunas Convention Act (ATCA), and to achieve domestic management objectives under the Magnuson-Stevens Fishery Conservation and Management Act (Magnuson-Stevens Act).  The proposed definition of the management boundary area is to assist management, monitoring, and enforcement of the 25 mt allocated to the Longline category.  The proposed permit revisions to allow General category permitted vessels to participate in registered recreational HMS fishing tournaments and to allow a time period for permit category changes are intended to relieve restrictions and help achieve domestic management objectives.

          DATES:

          Written comments must be received on or before August 8, 2003.  Public hearings on this proposed rule will be held in July 2003.  Times and locations for the public hearings will be specified in a separate document in the Federal Register to be published at a later date.

          ADDRESSES:
          Written comments on the proposed initial quota specifications, General category effort controls, definition of management boundary area, and permit revisions should be sent to Brad McHale, Highly Migratory Species Management Division, Office of Sustainable Fisheries (F/SF1), NMFS, One Blackburn Dr. Gloucester, MA 01930.  Comments also may be sent via facsimile (fax) to (978) 281-9340.  Comments will not be accepted if submitted via e-mail or the Internet.

          FOR FURTHER INFORMATION CONTACT:
          Brad McHale (978) 281-9260.

        SUPPLEMENTARY INFORMATION:
        Atlantic tunas are managed under the dual authority of the Magnuson-Stevens Act and ATCA.  ATCA authorizes the Secretary of Commerce (Secretary) to implement binding recommendations of ICCAT.  The authority to issue regulations under the Magnuson-Stevens Act and ATCA has been delegated from the Secretary to the Assistant Administrator for Fisheries, NOAA (AA).
        Background
        On May 28, 1999, NMFS published in the Federal Register (64 FR 29090) final regulations, effective July 1, 1999, implementing the Fishery Management Plan for Atlantic Tunas, Swordfish, and Sharks (HMS FMP) that was adopted and made available to the public in April 1999.  These proposed initial specifications are published in accordance with the HMS FMP and are necessary to implement the 2002 ICCAT Recommendation, as required by ATCA, and to achieve domestic management objectives under the Magnuson-Stevens Act.  In 2002, ICCAT recommended increasing the Total Allowable Catch (TAC) for the western Atlantic management area from 2,500 mt to 2,700 mt, consistent with the 1998 rebuilding plan for western Atlantic bluefin tuna.  The 2002 quota increase is inclusive of a 25-mt quota to account for bycatch of BFT related to directed longline fisheries for other species in the vicinity of the management boundary area.  The ICCAT recommendation did not elaborate further as to how the vicinity of the management boundary area was to be defined.  These proposed initial quota specifications would be consistent with the BFT rebuilding program as set forth in the HMS FMP, would allocate the 2002 ICCAT-recommended quota for the 2003 fishing year (June 1, 2003 - May 31, 2004) among the several established domestic fishing categories based on the current BFT quota allocation percentages established in the HMS FMP, would allocate 25 metric tons to the longline north subquota and define “vicinity of the management boundary area” to the application of the 25 metric tons, and would carry over any unharvested 2002 fishing year quota.  Also, in accordance with the HMS FMP, NMFS proposes the General category effort control schedule, including time-period subquotas and restricted fishing days (RFDs), for the 2003 fishing season.
        On December 18, 2002, NMFS established the Atlantic HMS Angling category permit requirement (67 FR 77434) and required all vessels participating in HMS recreational fishing activities, except for HMS Charter/Headboats, to obtain an HMS Angling category permit.  As vessels are not authorized to possess two permits during the same fishing year, General category vessels are no longer allowed to fish for and/or to retain sharks, swordfish, and/or billfish under the daily recreational retention limits, thus precluding General category vessels from participating in recreational HMS fishing or in registered recreational HMS fishing tournaments.  This action proposes to amend the current regulations regarding HMS Angling category permits to allow General category permit holders to participate in registered recreational HMS fishing tournaments.
        On June 12, 2003, NMFS issued a temporary rule (68 FR 35185), effective through June 9, 2003, to address comments that the new permit category and the change to activities formerly allowed under General category rules have caused confusion.  Due to this confusion, many permit holders obtained Atlantic Tunas General category vessel permits in error.  Due to the circumstances of the new HMS Angling permit requirement, that temporary rule provides a 30-day period for Atlantic Tunas General category permit holders to change their permit category and obtain Atlantic HMS Angling category permits.

        Since the issuance of the June 12, 2003, temporary rule, NMFS received numerous comments on a daily basis that other permits have been issued in incorrect categories due to confusion about the new HMS Angling permit category, human error in selecting the permit due to unfamiliarity with the automated permitting system, or to possible administrative error.  Currently, the existing regulations do not provide any mechanism for addressing such errors made by permittees or NOAA Fisheries' permit contractor.  Persons issued permits in the Atlantic Tunas General and Harpoon and Atlantic HMS Angling and Charter/Headboat categories have also contacted NOAA Fisheries to seek relief for permits issued in incorrect categories.  Due to the circumstances of the new HMS Angling permit requirements and to the numerous errors in permit category issuance, NMFS issued a second temporary rule, effective June 23, 2003, through December 31, 2003, to provide a 10-day period for all Atlantic Tunas General, Harpoon, and Trap categories and Atlantic HMS Angling and Charter/Headboat category permit holders to correct permit category errors (68 FR 38233).

        A number of issues regarding the domestic management of BFT were discussed at length during the most recent HMS Advisory Panel (AP) meeting held in Silver Spring, MD, many of which are beyond the scope of this action and will be addressed in future regulatory or FMP amendments.  These issues may include, but are not limited to, adjustment of domestic quota allocation percentages, adjustment of General category time-period subquotas, addressing the Petition for Rulemaking submitted by the North Carolina Department of Marine Fisheries (see Notice of Receipt of Petition, 67 FR 69502, November 18, 2002), adjustment of quota category opening and closure dates, and adjustment of large medium BFT size tolerances in the Harpoon and Purse seine categories.  Because many of these issues require further analysis and public input and because these initial specifications need to be issued as soon as possible given that the 2003 fishing year started on June 1, NMFS intends to address these issues as separate rulemaking activities and  publish a Notice of Intent in the Federal Register to begin the process of addressing those issues requiring an HMS FMP amendment.

        After consideration of public comment, NMFS will issue final initial specifications and effort controls and publish them in the Federal Register.  The final initial quota specifications and effort controls may subsequently be adjusted during the course of the fishing year, consistent with the provisions of the HMS FMP.  Such adjustments will be published in the Federal Register.
        Domestic Quota Allocation
        The HMS FMP and its implementing regulations established baseline percentage quota shares for the domestic fishing categories.  These percentage shares were based on allocation procedures that had been developed by NMFS over several years.  The baseline percentage quota shares established in the HMS FMP for fishing years beginning June 1, 1999, to the present are as follows:   General category -  47.1 percent; Harpoon category -- 3.9 percent; Purse Seine category -- 18.6 percent; Angling category -- 19.7 percent; Longline category -- 8.1 percent; Trap category -- 0.1 percent; and Reserve -- 2.5 percent.  The 2002 ICCAT-recommended U.S. BFT quota of 1,464.6 mt, not including the 25 mt set aside for pelagic longline vessels, would be allocated in accordance to these percentages.  However, in addition to the 2002 ICCAT quota Recommendation, quota allocations are adjusted based on overharvest or underharvest from prior fishing year's activity and results of U.S. data on dead discards and on the use of the ICCAT dead discard allowance.  Each of these adjustments is discussed below and then applied to the results of the above percentage shares to determine the 2003 fishing year proposed initial specifications.
        2002 Underharvest/Overharvest
        The current ICCAT BFT quota recommendation allows, and U.S. regulations require, the addition or subtraction, as appropriate, of any underharvest or overharvest in a fishing year to the following fishing year, provided that such carryover does not result in overharvest of the total annual BFT quota and is consistent with all applicable ICCAT Recommendations, including restrictions on landings of school BFT.  Therefore, NMFS proposes to adjust the 2003 fishing year quota specifications for the BFT fishery to account for underharvest and/or overharvest in the 2002 fishing year.
        The General category fishery for BFT was closed, as of December 15, 2002, for the remainder of the 2002 fishing year (June 1, 2002 - May 31, 2003; 67 FR 77433, December 18, 2002).  Overall U.S. landings figures for the fishing year are still preliminary, since other categories were open and final data from these categories have not yet been analyzed.  Thus, the landings figures may be updated before the 2003 specifications are finalized.  For the 2002 fishing year, NMFS has preliminarily determined that General category landings were higher than the adjusted General category quota by 16.3 mt.  Purse Seine category landings were fewer than the adjusted Purse Seine category quota by 110.0 mt.  Regulations at 50 CFR 635.27(a)(9)(i) require that Purse Seine category underharvests or overharvests be subtracted from or added to each individual vessel's quota allocation, as appropriate.  Based on the estimated amount of Reserve that NMFS is maintaining for the landing of BFT taken during ongoing scientific research projects, NMFS estimates that 10.3 metric tons of Reserve remains unharvested from the 2002 fishing year.  This remaining Reserve quota will be used to partially address the General category overharvest in 2002.
        The Angling, Longline, Trap, and Harpoon category fisheries remained open through May 31, 2003.  As NMFS anticipates publication of final BFT quota specifications for the 2003 fishing year prior to the availability of final 2002 fishing year landings figures for these four categories, best estimates based on current landings patterns will be used to determine carryover amounts, if any.  Harpoon category landings are less than the adjusted Harpoon category quota by approximately 20.7 mt.  Angling category under/over harvests vary by size class for the 2002 fishing year:   School BFT -- 136.0 mt underharvest, large school/small medium BFT -- 76.1 mt underharvest, large medium/giant BFT -- 1.5 mt overharvest, and school reserve -- 20.5 mt underharvest.  Overharvest in the large medium/giant size class will be addressed by transfer from the large school/small medium category.  Longline category landings are less than the adjusted quota by 233 mt.  In 2002, no landings were recorded in the Trap category leaving 2.3 mt.  For the above four categories that remain open, the final initial 2003 BFT quota specifications will be issued based on updated 2002 landings.
        For all categories with underharvests from the 2002 fishing year, these initial specifications include provisions to carry forward remaining quota to the same category for the 2003 fishing year.  However, the unused school reserve (approximately 20.5 mt) is proposed to be allocated to the Reserve category.
        Dead Discards

        As part of the BFT rebuilding program, ICCAT recommends an allowance for dead discards.  The U.S. dead discard allowance is 68 mt.  The 2001 preliminary estimate of U.S. dead discards, as reported in pelagic longline vessel logbooks, totaled 25.0 mt (U.S. National Report to ICCAT 2002).  As estimates of BFT dead discards for the 2002 fishing year will not be available for some time, the estimate for the 2001 calendar year was used to calculate the amount to be added to, or subtracted from, the U.S. BFT landings quota for 2003 as a result of dead discards.  Estimates of dead discards from other gear types and fishing sectors that do not use the pelagic longline vessel logbook are unavailable at this time and thus are not included in this calculation.  As U.S. fishing activity is estimated to have resulted in less dead discards than its allowance, the ICCAT Recommendation and U.S. regulations state that the United States may add one half of the difference between the amount of dead discards and the allowance (i.e., 68.0 mt - 25.0 mt = 43.0 mt, 43.0 mt/2 = 21.5 mt) to its total allowed landings for the following fishing year, or to individual fishing categories, or to the Reserve.  NMFS proposes to allocate the 21.5 mt to the Reserve category quota.
        2003 Proposed Initial Quota Specifications
        Therefore, in accordance with the 2002 ICCAT Recommendation, the ICCAT Recommendation regarding the dead discard allowance, the HMS FMP percentage shares for each of the domestic categories, and regulations regarding annual adjustments at § 635.27(a)(9)(ii), NMFS proposes initial quota specifications for the 2003 fishing year as follows:   General category -- 683.8 mt; Harpoon category -- 77.8 mt; Purse Seine category -- 382.4 mt; Angling category -- 499.2 mt; Longline category -- 166.9 mt; and Trap category -- 3.8 mt.  Additionally, 78.6 mt would be allocated to the Reserve category for inseason allocations, including providing for a late season General category fishery, or to cover scientific research collection and potential overharvest in any category except the Purse Seine category.
        Based on the above proposed initial specifications, the Angling category quota of 499.2 mt would be further subdivided as follows:   School BFT -- 233.1 mt, with 130 mt to the northern area (north of 39° 18′ N. latitude), 103.1 mt to the southern area (south of 39° 18′ N. latitude), plus 22.1 mt held in reserve; large school/small medium BFT -- 237.4 mt, with 127.6 mt to the northern area and 109.8 mt to the southern area; and large medium/giant BFT -- 6.6 mt, with 2.2 mt to the northern area and 4.4 mt to the southern area.  These subquotas reflect the adjusted north-south dividing line (39° 18′ N. latitude) and percentage quota allocations in the northern and southern areas for the Angling category, as implemented by NMFS through a final rule on August 15, 2001 (66 FR 42801).
        The 2002 ICCAT recommendation includes a 25 mt set-aside quota to account for bycatch of BFT related to directed longline fisheries in the vicinity of the management area boundary.  This set-aside quota is in addition to the overall incidental longline quota to be subdivided in accordance to the North/South allocation percentages mentioned below.  NMFS recently adjusted  the boundary line between the northern and southern areas to 31°00′ N. latitude, near Jekyll Island, Georgia (an area with little longline fishing activity nearby), and adjusted the Longline quota distribution to allocate 40 percent to the northern area and 60 percent to the southern area (68 FR 32414, May 30, 2003).  Thus, the proposed Longline category quota of 166.9 mt would be subdivided as follows:  49.8 mt to longline vessels landing BFT north of 31° N. latitude and 92.1 mt to longline vessels landing BFT south of 31° N. latitude.  The 25 mt allocated by ICCAT for longline vessels in the vicinity of the management boundary area would be allocated to the Longline north subcategory.  Accounting for landings under this additional quota would be maintained separately from other landings under the Longline north subcategory.

        Should adjustments to the final initial 2003 BFT quota specifications be required based on final 2002 BFT landings figures, NMFS will publish the adjustments in the Federal Register.
        General Category Effort Controls
        For the last several years, NMFS has implemented General category time-period subquotas to increase the likelihood that fishing would continue throughout the entire General category season.  The subquotas are consistent with the objectives of the HMS FMP and are designed to address concerns regarding allocation of fishing opportunities, to assist with distribution and achievement of optimum yield, to allow for a late season fishery, and to improve market conditions and scientific monitoring.
        The HMS FMP divides the annual General category quota into three time-period subquotas as follows:   60 percent for June-August, 30 percent for September, and 10 percent for October-December.  These percentages would be applied to the adjusted 2003 coastwide quota for the General category of 683.8 mt, minus 10.0 mt reserved for the New York Bight fishery.  Therefore, of the available 673.8 mt coastwide quota, 404.3 mt would be available in the period beginning June 1 and ending August 31; 202.1 mt would be available in the period beginning September 1 and ending September 30; and 67.4 mt would be available in the period beginning October 1 and ending December 31, 2003.
        In addition to time-period subquotas, NMFS also has implemented General category RFDs to extend the General category fishing season.  The RFDs are designed to address the same issues addressed by time-period subquotas and provide additional finer-scale inseason flexibility.  For the 2003 fishing year, NMFS proposes a schedule of RFDs that would assist in extending the General category BFT fishery into the late season to provide southern Atlantic General category participants commercial fishing opportunities on large medium and giant BFT.
        Therefore, NMFS proposes that persons aboard vessels permitted in the General category would be prohibited from fishing, including tag-and-release, for BFT of all sizes on the following days:  November 15 through November 30 inclusive.  These proposed RFDs would improve distribution of fishing opportunities without increasing BFT mortality.
        General Category Permit Revision

        Since the HMS FMP, changes have been made to the Atlantic HMS and Atlantic tunas permit categories regarding allowed activities as well as clarification of definitions of permitted operations for certain permit categories in order to further meet domestic management objectives.  Recent rulemaking established a new recreational permit category for all HMS and replaced the previous Atlantic tunas Angling permit category (67 FR 77434, December 18, 2002).  The owner/operator of each vessel used to fish recreationally for Atlantic HMS, except for HMS Charter/Headboats, or on which Atlantic HMS are retained or possessed recreationally, must obtain an HMS Angling permit.  HMS FMP implementing regulations allow only one type of permit to be issued to a particular vessel.  Until recently, General category permit holders were allowed to fish recreationally for swordfish, sharks, and billfish (i.e. marlins) under the recreational size and retention limits.  Now, because the new HMS Angling permit is required for these recreational fishing activities, General category permit holders must choose whether to retain their commercial General category permit and forgo recreational HMS fishing opportunities or to switch permit categories to an Atlantic HMS Angling permit.  Since the new permit regulations have become effective, NMFS has received comment from vessel owners/operators and tournament directors that many vessels that had historically participated in tournaments would no longer be able to do so.  In order to provide some flexibility and allow General category fishermen access to recreational HMS fisheries, NMFS proposes to allow General category vessels to participate in recreational HMS fisheries provided they register and participate in a recreational HMS fishing tournament that is registered according to HMS tournament registration and participation regulations at  § 635.5(d), and according to the regulations of the tournament.  It is incumbent upon the General category fishermen to verify that a tournament is registered.
        When General category vessels participate in registered tournaments, HMS Angling category regulations, as well as any specific tournament rules, would apply to General category vessels when fishing for tuna (other than BFT), sharks, swordfish, and billfish.  For BFT, General category vessels participating in tournaments must comply with all General category regulations.  Thus, they would still not be allowed to fish for BFT less than 73” and would be subject to restricted fishing days.  As HMS tournaments must be registered, NMFS would also be able to collect data on catch and effort for management purposes and make further revisions should they be necessary.
        Time Period for Permit Category Changes
        NMFS also proposes to allow permit applicants to make permit category changes within 10 days of the date of issuance of the permit (e.g., if a permit is issued on July 1, then corrections to the permit category must be made by July 10).  Partly as a result of the establishment on HMS Angling permit and of the potential confusion during the permit application process, applicants have found themselves with a permit other than the one intended.  As permit holders cannot make more than one change a year or change categories after they have renewed a permit, permit holders are finding they are unable to obtain the correct category and may be unable to engage in their intended fishing activity for the current year if they do not meet a particular  permit requirement (e.g., cannot sell fish in the Angling category, or do not hold a Captain or Master's license with a Charter/Headboat permit, etc).  NMFS proposes to authorize a permit holder to make a permit category change within 10 days of the date of issuance of the permit.  Ten days should provide enough time for a permit applicant to obtain his or her permit, check that it is the correct permit, and contact the NMFS permit contractor to correct an error.
        Definition of Management Boundary Area
        NMFS proposes to define “vicinity of the management boundary area” as the Northeast Distant (NED) area to facilitate management, monitoring, and enforcement of the 25 mt allocated to the longline north category, per the ICCAT recommendation.  This definition matches exactly the definition of NED closed area in which the experimental fishery is occurring.  NMFS is in the third year of the 3-year sea turtle bycatch reduction experiment in the NED area, and pelagic longline vessels are prohibited from fishing in that area unless they are actively participating in, and complying with, the terms and conditions of the NED experiment.  Such vessels participate in the NED experiment pursuant to an Endangered Species Act Section 10 permit and exempted fishing permits with 100 percent observer coverage.  As the NED area straddles the management boundary area from 60° to 20° W. Longitude and 35° to 55° N. Latitude and given the strict controls of the terms of the experimental fishery, NMFS should be able to monitor, manage, and enforce the 25 mt incidental BFT allocation to the longline north category.  NMFS further proposes to allow retention of 25 mt of BFT caught incidentally to fishing under the NED experimental fishery with no target catch requirements because the strict controls of the experiment may prevent fishermen from meeting the target catch requirements such that all BFT would be discarded.  Once the 25 mt limit is reached, retention limits and target catch requirements would apply to all incidentally caught BFT in the NED area.
        Classification
        This proposed rule is published under the authority of the Magnuson-Stevens Act and ATCA.  The Assistant Administrator for Fisheries (AA) has preliminarily determined that the regulations contained in this proposed rule are necessary to implement the recommendations of ICCAT and to manage the domestic Atlantic HMS fisheries.
        NMFS has prepared a regulatory impact review and an Initial Regulatory Flexibility Analysis (IRFA) that examine the impacts of the selected alternatives discussed previously in this rulemaking.  The purpose of this proposed action is to implement the 2002 ICCAT Recommendation regarding the BFT quota, propose 2003 specifications for the BFT fishery that allocates the quota among domestic fishing categories, including 25 mt of BFT quota to the Longline category, implement General category effort controls, and revise permit regulations.
        The analysis for the IRFA assesses the impacts of the various alternatives on the vessels that participate in the BFT fisheries, all of which are considered small entities.  In order to do this NOAA Fisheries has estimated the average impact that the alternative to establish the 2003 BFT quota for all domestic fishing categories would have on individual categories and the vessels within those categories.  As mentioned above, the 2002 ICCAT Recommendation increased the BFT quota allocation to 1,489.6 mt.  This increase includes 77.6 mt to be redistributed to the domestic fishing categories based on the allocation percentages established in the HMS FMP as well as a set-aside quota of 25 mt to account for incidental catch of BFT related to directed longline swordfish and BAYS fisheries in the vicinity of the management area boundary.  In 2002, the annual gross revenues from the commercial BFT fishery were approximately $18 million (Table 9).  There are approximately 11,091 vessels that are permitted to land and sell BFT under four BFT quota categories.  The four quota categories and their 2002 gross revenues are General ($13,948,190), Harpoon ($588,884), Purse Seine ($3,066,034), and Incidental Longline ($588,352).  The analysis for the IRFA assumes that all category vessels have similar catch and gross revenues.  While this may not be true, the analyses are sufficient to show the relative impact of the various preferred alternatives on vessels.

        For the allocation of BFT quota among domestic fishing categories, two alternatives were considered:  no action and a preferred alternative that would allocate the ICCAT-recommended quota to domestic categories in accordance with the 2002 ICCAT recommendation and HMS FMP.  The 2002 ICCAT recommendation specified a 1489.6 mt total quota for the United States.  Under ATCA, the United States is obligated to implement ICCAT-approved recommendations.  The preferred alternative would increase the quota by 77.6 mt and would have positive impacts for fishermen.  The no action alternative would not be consistent with the purpose and need for this action and the HMS FMP.  It would maintain economic impacts to the United States and to local economies at a distribution and scale similar to 2002 but would deny fishermen additional fishing opportunities as recommended by the 2002 ICCAT Recommendation and as mandated by ATCA.
        For the General category effort controls, three alternatives were considered:  designate RFDs according to a published schedule, no action (no initial RFDs and publish a schedule during the season), and a preferred alternative to establish RFDs late in the season to provide a late Fall, southern Atlantic fishery.  The impacts of designating RFDs according to a published schedule vary according to the pace of the fishery.  When catch rates have been high, a published schedule has had positive economic consequences by avoiding market gluts and providing access to higher quality fish later in the season.  Positive social impacts have also occurred as fishermen have commented that knowing the exact schedule of RFDs prior to the season facilitates planning and scheduling of trips.  However, if catch rates are slow as in recent years, RFDs have been waived and caused confusion and disrupted fishermen's activity, with some negative impacts.  The no action alternative would have positive economic consequences if another season of low catch rates occurs.  However, even with low catch rates and no RFDs, it is unlikely that there will be enough quota in the General category to sustain a late season commercial handgear fishery off south Atlantic states.  Thus, if the 2003 season should be similar to the 2002 fishery, there may be negative economic impacts to fishermen in southern states unless inseason management actions (similar to those in 2002, i.e. inseason transfers) are taken to directly address these concerns and potential impacts.  The preferred alternative could have potentially negative economic impacts to those northern area fishermen who would have otherwise caught and sold fish earlier in the season, but would have positive economic impacts to those south Atlantic fishermen.  Impacts would be slightly mitigated if northern area fishermen are willing to travel south late in the season.  Overall, however, extending the season as late as possible would enhance the likelihood of increasing participation by southern area fishermen and access to the fishery over a greater range of the fish migration.
        For permit categories, four alternatives were considered:  no action (General category vessels cannot participate in recreational HMS fisheries and no permit changes are allowed once a permit has been issued), a preferred alternative to allow General category vessels to participate in recreational HMS registered fishing tournaments, allow dual permits and require declarations by General category vessels prior to every trip regarding which permit is to be used, and a preferred alternative to allow 10 days from the date of issuance of the permit to change categories.  The no action alternative would maintain perceived negative impacts because General category vessels would remain excluded from all HMS recreational fishing opportunities.  The no action alternative would also not allow permit category changes to correct errors and would have negative economic impacts for those vessels who intended to engage in commercial activity but could not due to an incorrect permit.  The preferred alternative to allow General category vessels to participate in recreational HMS registered tournaments have positive economic impacts by relieving a restriction on General category vessels.  The alternative to allow dual permits would further liberalize the restriction and alleviate any negative economic impacts by allowing General category vessels to choose on any given day whether they wish to fish commercially or recreationally.  However, there would be some administrative impacts to vessel owners/operators wishing as they would have to declare with NOAA Fisheries their intent before making the trip, and difficulties in monitoring and enforcing the declarations in real-time and providing multiple permits for the same vessel and may end up causing more confusion within the fishery than alleviating any perceived negative economic impacts.  The preferred alternative to provide a time period for permit holders to change their permit category if they found an error would ease an administrative issue with positive economic impacts.
        For the definition of the management boundary area, four alternatives were considered:  no action (no definition of the area and operational procedures would account for quota allocated to the area), a preferred alternative to define the area as the Northeast Distant area and allow retention of the 25 mt quota of BFT with no target catch requirements, defining the area as 5 degrees on both sides of the management boundary line, and defining the area as east of the management boundary line.  All but the no action alternative would also restrict the quota to vessels participating in the NED experimental fishery.  Under the no action alternative and the two non-preferred alternatives, more BFT would likely be discarded than under the preferred alternative and negative economic impacts may occur due to lost revenues from discarded BFT.  However, any negative impacts are expected to be minor because BFT are caught incidentally to fishing for other species, thus there are no costs.  The preferred alternative would provide slight positive economic impacts by allowing more retention of incidentally caught BFT relative to the other alternatives because no target requirements would apply.
        None of the proposed alternatives in this document would result in additional reporting, record keeping, compliance, or monitoring requirements for the public.

        NMFS prepared a draft Environmental Assessment (EA) for this proposed rule, and the AA has preliminarily concluded that there would be no significant impact on the human environment if this proposed rule were implemented.  The EA presents analyses of the anticipated impacts of these proposed regulations and the alternatives considered.  A copy of the EA and other analytical documents prepared for this proposed rule, are available from NMFS (see
          ADDRESSES).
        This proposed rule has been determined to be not significant for purposes of Executive Order 12866.
        On September 7, 2000, NMFS reinitiated formal consultation for all HMS commercial fisheries under section 7 of the Endangered Species Act (ESA).  A Biological Opinion (BiOp) issued June 14, 2001, concluded that continued operation of the Atlantic pelagic longline fishery is likely to jeopardize the continued existence of endangered and threatened sea turtle species under NMFS jurisdiction.  NMFS is currently implementing the reasonable and prudent alternative required by the BiOp. These proposed quota specifications and effort controls would not have any additional impact on sea turtles as these actions would not likely increase or decrease pelagic longline effort, nor are they expected to shift effort into other fishing areas.  No irreversible or irretrievable commitments of resources are expected from this proposed action that would have the effect of foreclosing the implementation of the requirements of the BiOp.

        The area in which this proposed action is planned has been identified as Essential Fish Habitat (EFH) for species managed by the New England Fishery Management Council, the Mid-Atlantic Fishery Management Council, the South Atlantic Fishery Management Council, the Gulf of Mexico Fishery Management Council, the Caribbean Fishery Management Council, and the HMS Management Division of the Office of Sustainable Fisheries at NMFS.  It is not anticipated that this action will have any adverse impacts to EFH and, therefore, no consultation is required.

          List of Subjects in 50 CFR Part 635

        Fisheries, Fishing, Fishing vessels, Foreign relations, Intergovernmental relations, Penalties, Reporting and recordkeeping requirements, Statistics, Treaties.

          Dated:  July 3, 2003.
          Rebecca Lent,
          Deputy Assistant Administrator for Regulatory Programs, National Marine Fisheries Service.

          For the reasons set out in the preamble, 50 CFR part 635 is proposed to be amended as follows:

            PART 635—ATLANTIC HIGHLY MIGRATORY SPECIES

          1.  The authority citation for part 635 continues to read as follows:

            Authority:
            16 U.S.C. 971 et seq.; 16 U.S.C. 1801 et seq.

          2.  In § 635.4, revise paragraph (c) and add new paragraph (j)(4) to read as follows:

            § 635.4
            Permits and fees.

            (c) HMS Angling permits.  (1) The owner of any vessel used to fish recreationally for Atlantic HMS or on which Atlantic HMS are retained or possessed recreationally, must obtain an HMS Angling permit, except as provided in § 635.4(c)(2).  Atlantic HMS caught, retained, possessed, or landed by persons on board vessels with an HMS Angling permit may not be sold or transferred to any person for a commercial purpose.  A vessel issued an HMS Angling permit for a fishing year shall not be issued an HMS Charter/Headboat permit or an Atlantic Tunas permit in any category for that same fishing year, regardless of a change in the vessel's ownership.
            (2)  A vessel issued an Atlantic Tunas General category permit under paragraph (d) of this section may fish in a recreational HMS fishing tournament if the vessel has registered for, paid an entry fee to, and is fishing under the rules of a tournament that has notified NMFS as required under § 635.5(d).  When a vessel issued an Atlantic Tunas General category permit is fishing in such a tournament, such vessel  must comply with HMS Angling category regulations, except as provided in § 635.4(c)(3).
            (3)  A vessel issued an Atlantic Tunas General category permit fishing in a tournament, as permitted in § 635.4(c)(2), shall comply with Atlantic Tunas General category regulations when fishing for, retaining, possessing, or landing BFT.

            (j) * * *
            (4) Except for Atlantic Tunas Longline and Purse Seine category permits, a vessel owner issued a permit under paragraphs (b), (c) or (d) of this section may change the category of the vessel's permit within 10 days of the date of issuance of the permit.  Beyond 10 days after the date of issuance of the permit, no permit category changes may be made.

          3. In § 635.23, paragraph (f)(3) is added to read as follows:

            § 635.23
            Retention limits for BFT.

            (f) * * *
            (3) For pelagic longline vessels participating in an experimental fishery in the Northeast distant area, as defined under § 635.2, under exempted fishing permits issued under § 635.32, all BFT taken incidental to fishing for other species while in the Northeast distant area may be retained up to a maximum of 25 mt for all vessels so authorized, notwithstanding the retention limits and target catch requirements specified in paragraph (f)(1) of this section.  Once the 25 mt limit is attained, the retention limits and target catch requirements specified in paragraph (f)(1) of this section or as adjusted pursuant to paragraph (f)(2) of this section will apply to such vessels.

          4. In § 635.27, paragraph (a)(3) is revised to read as follows:

            § 635.27
            Quotas.
            (a) * * *
            (3) Longline category quota. The total amount of large medium and giant BFT that may be caught incidentally and retained, possessed, or landed by vessels for which Longline category Atlantic tunas permits have been issued is 8.1 percent of the overall U.S. BFT quota. In the initial quota specifications issued under paragraph (a) of this section, no more than 60.0 percent of the Longline category quota may be allocated for landing in the area south of 31° 00′; N. lat. In addition, 25 mt shall be allocated for incidental catch by pelagic longline vessels participating in an experimental fishery in the Northeast distant area, as defined under § 635.2, under exempted fishing permits issued under § 635.32.

          5. In § 635.71, add new paragraph (b)(29) to read as follows:

            § 635.71
            Prohibitions.

            (b) * * *
            (29)  Participate in any HMS recreational fishing activity aboard a vessel issued an Atlantic Tunas General category permit unless, as specified at § 635.4(c)(2) and (3), the vessel has registered and paid an entry fee to, and is fishing under the rules of, a recreational HMS fishing tournament registered as required under § 635.5(d).

      [FR Doc. 03-17521 Filed 7-9-03; 8:45 am]
      BILLING CODE 3510-22-S