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Proposed Rule2024-04107

Regulations To Address Margin Adequacy and To Account for the Treatment of Separate Accounts by Futures Commission Merchants

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Published

March 1, 2024

Issuing agencies

Commodity Futures Trading Commission

Abstract

On April 14, 2023, the Commodity Futures Trading Commission (Commission or CFTC) published a notice of proposed rulemaking (First Proposal) that proposed to amend the derivatives clearing organization (DCO) risk management regulations adopted under the Commodity Exchange Act (CEA) to permit futures commission merchants (FCMs) that are clearing members of DCOs (clearing FCMs), subject to specified requirements, to treat separate accounts of a single customer as accounts of separate legal entities for purposes of certain Commission regulations. In light of comments received supporting direct application of separate account treatment requirements to FCMs in the Commission's regulations, the Commission has determined to withdraw the First Proposal. The Commission now proposes regulations to require an FCM to ensure that a customer does not withdraw funds from its account with the FCM if the balance in such account after such withdrawal would be insufficient to meet the customer's initial margin requirements, and relatedly, to permit an FCM, in certain circumstances and subject to certain conditions, to treat the separate accounts of a single customer as accounts of separate entities for purposes of certain Commission regulations (Second Proposal). The proposed amendments would establish the conditions under which an FCM may engage in such separate account treatment.

Full Text

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[Federal Register Volume 89, Number 42 (Friday, March 1, 2024)]
[Proposed Rules]
[Pages 15312-15363]
From the Federal Register Online via the Government Publishing Office [<a href="http://www.gpo.gov">www.gpo.gov</a>]
[FR Doc No: 2024-04107]

[[Page 15311]]

Vol. 89

Friday,

No. 42

March 1, 2024

Part III

Commodity Futures Trading Commission

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17 CFR Parts 1, 22 et al.

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Regulations To Address Margin Adequacy and To Account for the Treatment
of Separate Accounts by Futures Commission Merchants; Proposed Rule

Federal Register / Vol. 89 , No. 42 / Friday, March 1, 2024 /
Proposed Rules

[[Page 15312]]

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COMMODITY FUTURES TRADING COMMISSION

17 CFR Parts 1, 22, 30, and 39

RIN 3038-AF21

Regulations To Address Margin Adequacy and To Account for the
Treatment of Separate Accounts by Futures Commission Merchants

AGENCY: Commodity Futures Trading Commission.

ACTION: Notice of proposed rulemaking; withdrawal.

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SUMMARY: On April 14, 2023, the Commodity Futures Trading Commission
(Commission or CFTC) published a notice of proposed rulemaking (First
Proposal) that proposed to amend the derivatives clearing organization
(DCO) risk management regulations adopted under the Commodity Exchange
Act (CEA) to permit futures commission merchants (FCMs) that are
clearing members of DCOs (clearing FCMs), subject to specified
requirements, to treat separate accounts of a single customer as
accounts of separate legal entities for purposes of certain Commission
regulations. In light of comments received supporting direct
application of separate account treatment requirements to FCMs in the
Commission's regulations, the Commission has determined to withdraw the
First Proposal. The Commission now proposes regulations to require an
FCM to ensure that a customer does not withdraw funds from its account
with the FCM if the balance in such account after such withdrawal would
be insufficient to meet the customer's initial margin requirements, and
relatedly, to permit an FCM, in certain circumstances and subject to
certain conditions, to treat the separate accounts of a single customer
as accounts of separate entities for purposes of certain Commission
regulations (Second Proposal). The proposed amendments would establish
the conditions under which an FCM may engage in such separate account
treatment.

DATES: Comments must be received on or before April 22, 2024.

ADDRESSES: You may submit comments, identified by RIN 3038-AF21, by any
of the following methods:
<bullet> CFTC Comments Portal: <a href="https://comments.cftc.gov">https://comments.cftc.gov</a>. Select
the ``Submit Comments'' link for this rulemaking and follow the
instructions on the Public Comment Form.
<bullet> Mail: Send to Christopher Kirkpatrick, Secretary of the
Commission, Commodity Futures Trading Commission, Three Lafayette
Centre, 1155 21st Street NW, Washington, DC 20581.
<bullet> Hand Delivery/Courier: Follow the same instructions as for
Mail, above.
Please submit your comments using only one of these methods.
Submissions through the CFTC Comments Portal are encouraged. All
comments must be submitted in English, or if not, accompanied by an
English translation. Comments will be posted as received to <a href="https://comments.cftc.gov">https://comments.cftc.gov</a>. 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 Sec. 145.9 of the Commission's regulations. 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 <a href="https://comments.cftc.gov">https://comments.cftc.gov</a> 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 proposed determination and order 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 FOIA.

FOR FURTHER INFORMATION CONTACT: Robert B. Wasserman, Chief Counsel,
202-418-5092, <a href="/cdn-cgi/l/email-protection#47353026343422352a2629072421332469202831">[email&#160;protected]</a>; Daniel O'Connell, Special Counsel,
202-418-5583, <a href="/cdn-cgi/l/email-protection#afcbc0ccc0c1c1cac3c3efccc9dbcc81c8c0d9">[email&#160;protected]</a>, Division of Clearing and Risk; Thomas
Smith, Deputy Director, 202-418-5495, <a href="/cdn-cgi/l/email-protection#d9adaab4b0adb199babfadbaf7beb6af">[email&#160;protected]</a>; Joshua Beale,
Associate Director, 202-418-5446, <a href="/cdn-cgi/l/email-protection#6e040c0b0f020b2e0d081a0d40090118">[email&#160;protected]</a>; Jennifer Bauer,
Special Counsel, 202-418-5472, <a href="/cdn-cgi/l/email-protection#fe949c9f8b9b8cbe9d988a9dd0999188">[email&#160;protected]</a>, Market Participants
Division, Commodity Futures Trading Commission, Three Lafayette Centre,
1155 21st Street NW, Washington, DC 20581.

SUPPLEMENTARY INFORMATION:

Table of Contents

I. Background
A. The Commission's Customer Funds Protection Regulations
B. The Divisions' No-Action Position
C. The Commission's First Proposal and It's Withdrawal
D. The Commission's Second Proposal
II. Proposed Regulations
A. Proposed Amendments to Regulation Sec. 1.3
B. Proposed Amendments to Regulation Sec. 1.17
C. Proposed Amendments to Regulations Sec. Sec. 1.20, 1.32,
22.2, and 30.7
D. Proposed Regulation Sec. 1.44(a)
E. Proposed Regulation Sec. 1.44(b)
F. Proposed Regulation Sec. 1.44(c)
G. Proposed Regulation Sec. 1.44(d)
H. Proposed Regulation Sec. 1.44(e)
I. Proposed Regulation Sec. 1.44(f)
J. Proposed Regulation Sec. 1.44(g)
K. Proposed Regulation Sec. 1.44(h)
L. Proposed Appendix A to Part 1
M. Proposed Amendments to Regulation Sec. 1.58
N. Proposed Amendments to Regulation Sec. 1.73
O. Proposed Amendments to Regulation Sec. 30.2
P. Proposed Amendments to Regulation Sec. 39.13(g)(8)
III. Cost Benefit Considerations
A. Introduction
B. Consideration of the Costs and Benefits of the Commission's
Action
C. Costs and Benefits of the Commission's Action as Compared to
Alternatives
D. Section 15(a) Factors
IV. Related Matters
A. Antitrust Considerations
B. Regulatory Flexibility Act
C. Paperwork Reduction Act

I. Background

A. The Commission's Customer Funds Protection Regulations \1\
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\1\ For purposes of completeness and explanation of the basis
for this Second Proposal, the Commission restates its explanation of
its customer funds protection regulations, as stated in the First
Proposal. See Derivatives Clearing Organization Risk Management
Regulations to Account for the Treatment of Separate Accounts by
Futures Commission Merchants, 88 FR 22934, 22935-22936 (Apr. 14,
2023) (First Proposal).
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Two of the fundamental purposes of the CEA are the avoidance of
systemic risk and the protection of market participants from misuses of
customer assets.\2\ The Commission has promulgated a number of
regulations in furtherance of those objectives, including regulations
designed to ensure that FCMs appropriately margin customer accounts,
and are not induced to cover one customer's margin shortfall with
another customer's funds. In addition to protecting customer assets,
the current regulations serve the purpose of avoidance of systemic risk
by mitigating the risk that a customer default in its obligations to a
clearing FCM results in the clearing FCM in turn defaulting on its
obligations to a DCO, which could adversely affect the stability of the
broader financial system.
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\2\ Section 3(b) of the CEA, 7 U.S.C. 5(b).
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Section 4d(a)(2) of the CEA and Commission regulation Sec. 1.20(a)
require an FCM to separately account for and segregate from its own
funds all money, securities, and property which it has

[[Page 15313]]

received to margin, guarantee, or secure the trades or contracts of its
commodity customers.\3\ Additionally, section 4d(a)(2) of the CEA and
Commission regulation Sec. 1.22(a) prohibit an FCM from using the
money, securities, or property of one customer to margin or settle the
trades or contracts of another customer.\4\ This requirement is
designed to prevent disparate treatment of customers by an FCM and
mitigate the risk that there will be insufficient funds in segregation
to pay all customer claims if the FCM becomes insolvent.\5\ Section
4d(a)(2) of the CEA and regulations Sec. Sec. 1.20 and 1.22
effectively require an FCM to add its own funds into segregation in an
amount equal to the sum of all customer undermargined amounts,
including customer account deficits, to prevent the FCM from being
induced to use one customer's funds to margin or carry another
customer's trades or contracts.\6\
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\3\ 7 U.S.C. 6d(a)(2); 17 CFR 1.20(a).
\4\ 7 U.S.C. 6d(a)(2); 17 CFR 1.22(a).
\5\ Prohibition of Guarantees Against Loss, 46 FR 11668, 11669
(Feb. 10, 1981).
\6\ 7 U.S.C. 6d(a)(2); 17 CFR 1.20; 17 CFR 1.22; Prohibition of
Guarantees Against Loss, 46 FR at 11669.
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Section 5b of the CEA,\7\ as amended by the Dodd-Frank Wall Street
Reform and Consumer Protection Act of 2010,\8\ sets forth eighteen core
principles with which DCOs must comply to register and maintain
registration as DCOs with the Commission. In 2011, the Commission
adopted regulations for DCOs to implement Core Principle D, which
concerns risk management.\9\ These regulations include a number of
provisions that require a DCO to in turn require that its clearing
members take certain steps to support their own risk management in
order to mitigate the risk that such clearing members pose to the DCO.
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\7\ 7 U.S.C. 7a-1(b).
\8\ Dodd-Frank Wall Street Reform and Consumer Protection Act,
Public Law 111-203, 124 Stat. 1376 (2010).
\9\ Section 5b(c)(2)(D) of the CEA, 7 U.S.C. 7a-1(c)(2)(D);
Derivatives Clearing Organization General Provisions and Core
Principles, 76 FR 69334, 69335 (Nov. 8, 2011).
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Specifically, Commission regulation Sec. 39.13(g)(8)(iii) provides
that a DCO shall require an FCM clearing member to ensure that a
customer does not withdraw funds from its account with such clearing
member unless the net liquidating value plus the margin deposits
remaining in the customer's account after the withdrawal would be
sufficient to meet the customer initial margin requirements with
respect to the products or portfolios in the customer's account, which
are cleared by the DCO.\10\ Regulation Sec. 39.13(g)(8)(iii) thus
establishes a ``Margin Adequacy Requirement,'' designed to mitigate the
risk that an FCM clearing member fails to hold, from a customer, funds
sufficient to cover the required initial margin for the customer's
cleared positions.\11\ In light of the use of omnibus margin accounts,
where the funds of multiple customers are held together, this safeguard
is necessary to ``avoid the misuse of customer funds'' \12\ by
mitigating the likelihood that the clearing member will effectively
cover one customer's margin shortfall using another customer's funds.
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\10\ 17 CFR 39.13(g)(8)(iii).
\11\ For purposes of this proposed rulemaking, the Commission
uses the term ``Margin Adequacy Requirement'' to refer to this
requirement, which applies indirectly to clearing FCMs via the
operation of DCO rules, and the analogous requirement set forth in
proposed regulation Sec. 1.44(b) which would apply directly to all
FCMs.
\12\ Section 3(b) of the CEA, 7 U.S.C. 5(b).
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In adopting the Margin Adequacy Requirement of regulation Sec.
39.13(g)(8)(iii), the Commission stated \13\ that the regulation was
consistent with the definition of ``Margin Funds Available for
Disbursement'' in the Margins Handbook \14\ prepared by the Joint Audit
Committee (JAC), a representative committee of U.S. futures exchanges
and the National Futures Association (NFA).\15\ The Commission noted
that while designated self-regulatory organizations (DSROs) reviewed
FCMs to determine whether they appropriately prohibited their customers
from withdrawing funds from their futures accounts, it was unclear to
what extent that requirement applied to cleared swap accounts when such
swaps were executed on a designated contract market (DCM) that
participated in the JAC.\16\ The Commission also noted that clearing
members that cleared only swaps that were executed on a swap execution
facility were not subject to the requirements of the JAC Margins
Handbook or review by a DSRO.\17\
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\13\ Derivatives Clearing Organization General Provisions and
Core Principles, 76 FR at 69379.
\14\ JAC Margins Handbook, available at <a href="http://www.jacfutures.com/jac/MarginHandBookWord.aspx">http://www.jacfutures.com/jac/MarginHandBookWord.aspx</a>.
\15\ Joint Audit Committee, JAC Members, available at <a href="http://www.jacfutures.com/jac/Members.aspx">http://www.jacfutures.com/jac/Members.aspx</a>. Self-regulatory organizations,
such as commodity exchanges and registered futures associations
(e.g., NFA), enforce minimum financial and reporting requirements,
among other responsibilities, for their members. See Commission
regulation Sec. 1.3, 17 CFR 1.3. Pursuant to Commission regulation
Sec. 1.52(d), when an FCM is a member of more than one self-
regulatory organization, the self-regulatory organizations may
decide among themselves which of them will assume primary
responsibility for these regulatory duties and, upon approval of
such a plan by the Commission, the self-regulatory organization
assuming such primary responsibility will be appointed the
designated self-regulatory organization for the FCM. 17 CFR 1.52(d).
\16\ Derivatives Clearing Organization General Provisions and
Core Principles, 76 FR at 69379.
\17\ Id.
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Thus, regulation Sec. 39.13(g)(8)(iii) was also designed to apply
these risk mitigation and customer protection standards to futures and
swap positions carried in customer accounts by clearing FCMs. However,
Commission regulations do not apply a Margin Adequacy Requirement to
non-clearing FCMs, and regulation Sec. 39.13(g)(8)(iii) does not
require DCOs to apply that requirement to the positions carried by a
clearing FCM that are not cleared at a registered DCO (e.g., most
foreign futures and foreign option positions).\18\
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\18\ The term ``foreign futures'' means any contract for the
purchase or sale of any commodity for future delivery made, or to be
made, on or subject to the rules of any foreign board of trade. 17
CFR 30.1(a). The term ``foreign option'' means any transaction or
agreement which is or is held out to be of the character of, or is
commonly known to the trade as, an ``option'', ``privilege'',
``indemnity'', ``bid'', ``offer'', ``put'', ``call'', ``advance
guaranty'' or ``decline guaranty'', made or to be made on or subject
to the rules of any foreign board of trade. 17 CFR 30.1(b).
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B. The Divisions' No-Action Position \19\
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\19\ For purposes of completeness and explanation of the basis
for this Second Proposal, the Commission restates its explanation of
the no-action position contained in CFTC Letter No. 19-17, as stated
in the First Proposal. See First Proposal, 88 FR 22936-22937.
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On July 10, 2019, the Division of Swap Dealer and Intermediary
Oversight (DSIO) (now Market Participants Division (MPD)) and the
Division of Clearing and Risk (DCR) (collectively, the Divisions)
published CFTC Letter No. 19-17, which, among other things, provides
guidance with respect to the processing of margin withdrawals under
regulation Sec. 39.13(g)(8)(iii) and announced a conditional and time-
limited no-action position for certain such withdrawals.\20\ The
advisory followed discussions with and written representations from the
Asset Management Group of the Securities Industry and Financial Markets
Association (SIFMA-AMG), the Chicago Mercantile Exchange (CME), the
Futures Industry Association (FIA), the JAC, and several FCMs,
regarding practices among FCMs and their customers related to the
handling of separate accounts of the same

[[Page 15314]]

customer.\21\ CFTC Letter No. 19-17 used the term ``beneficial owner''
synonymously with the term ``customer,'' as ``beneficial owner'' was,
in this context, commonly used to refer to the customer that is
financially responsible for an account. Additionally, as discussed
further below, in the customer relationship context, FCMs often deal
directly with a commodity trading advisor acting as an agent of the
customer rather than the customer itself. For the avoidance of
confusion (e.g., with regard to the terms ``owner'' or ``ownership,''
as those terms are used in Forms 40 and 102, or parts 17-20, or with
regard to the term ``beneficial owner,'' as that term may be used by
other agencies), this proposed rulemaking uses only the term
``customer,'' except where directly quoting or paraphrasing a source
that uses ``beneficial owner.''
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\20\ CFTC Letter No. 19-17, July 10, 2019, available at <a href="https://www.cftc.gov/csl/19-17/download">https://www.cftc.gov/csl/19-17/download</a> as extended by CFTC Letter No. 20-
28, Sept. 15, 2020, available at <a href="https://www.cftc.gov/csl/20-28/download">https://www.cftc.gov/csl/20-28/download</a>; CFTC Letter No. 21-29, Dec. 21, 2021, available at <a href="https://www.cftc.gov/csl/21-29/download">https://www.cftc.gov/csl/21-29/download</a>; and CFTC Letter No. 22-11, Sept.
15, 2022, available at <a href="https://www.cftc.gov/csl/22-11/download">https://www.cftc.gov/csl/22-11/download</a>; CFTC
Letter No. 23-13, Sept. 11, 2023, available at <a href="https://www.cftc.gov/csl/23-13/download">https://www.cftc.gov/csl/23-13/download</a>.
\21\ SIFMA-AMG letter dated June 7, 2019 to Brian A. Bussey and
Matthew B. Kulkin (SIFMA-AMG Letter); CME letter dated June 14, 2019
to Brian A. Bussey and Matthew B. Kulkin (CME Letter); and FIA
letter dated June 26, 2019 to Brian A. Bussey and Matthew B. Kulkin
(First FIA Letter).
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The written representations preceding the issuance of CFTC Letter
No. 19-17 included letters filed separately by SIFMA-AMG, CME, and FIA
(collectively, the ``Industry Letters'').\22\ Citing regulation Sec.
39.13(g)(8)(iii)'s requirements related to the withdrawal of customer
initial margin, and JAC Regulatory Alert #19-02 reminding FCMs of those
requirements,\23\ SIFMA-AMG and FIA explained that provisions in
certain FCM customer agreements provide that certain accounts carried
by the FCM that have the same customer are treated as accounts for
different legal entities (i.e., ``separate accounts'').\24\
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\22\ The Commission notes that while CME disagreed with certain
aspects of FIA's letter that fall beyond the scope of this
rulemaking, CME's letter noted that CME was ``amenable to the
Commission amending Rule 39.13(g)(8)(iii) to allow a DCO to permit
a[n] FCM to release excess funds from a customer's separate account
notwithstanding an outstanding margin call in another account of the
same customer provided that certain specified risk-mitigating
conditions . . . are satisfied.'' CME Letter.
\23\ JAC, Regulatory Alert #19-02, May 14, 2019, available at
<a href="http://www.jacfutures.com/jac/jacupdates/2019/jac1902.pdf">http://www.jacfutures.com/jac/jacupdates/2019/jac1902.pdf</a>.
\24\ SIFMA-AMG Letter; First FIA Letter.
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As FIA explained, there are a variety of reasons why a customer may
want separate treatment for its accounts under such an agreement.\25\
For instance, an institutional customer, such as an investment or
pension fund, may allocate assets to investment managers under
investment management agreements that require each investment manager
to invest a specified portion of the customer's assets under management
in accordance with an agreed trading strategy, independent of the
trading that may be undertaken for the customer by the same or other
investment managers acting on behalf of other accounts of the
customer.\26\ In such a situation, an investment manager may, in order
to implement its trading strategy effectively, want assurance that the
portion of funds it has been allocated to manage is entirely available
to the investment manager, and will not be affected by the activities
of other investment managers who manage other portions of the
customer's assets and maintain separate accounts at the same FCM.
Additionally, a commercial enterprise may establish separate agreements
to leverage specific broker expertise on products or to diversify risk
management strategies.\27\ In such cases, each separate account may be
subject to a separate customer agreement, which the FCM negotiates
directly with, in many cases, the customer's agent, which often will be
an investment manager.\28\
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\25\ First FIA Letter.
\26\ See id.
\27\ Id.
\28\ Cf. id.
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SIFMA-AMG and FIA asserted that, subject to appropriate FCM
internal controls and procedures, separate accounts should be treated
as separate legal entities for purposes of regulation Sec.
39.13(g)(8)(iii); i.e., separate accounts should not be combined when
determining an account's margin funds available for disbursement.\29\
SIFMA-AMG and FIA maintained that such separate account treatment
should not be expected to expose an FCM to any greater regulatory or
financial risk, and asserted that an FCM's internal controls and
procedures could be designed to assure that the FCM does not undertake
any additional risk as to the separate account.\30\ The Industry
Letters included a number of examples of such controls and
procedures.\31\
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\29\ SIFMA-AMG Letter; First FIA Letter.
\30\ SIFMA-AMG Letter; First FIA Letter.
\31\ SIFMA-AMG Letter; First FIA Letter; CME Letter.
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In its letter, SIFMA-AMG suggested that it would be possible to
allow for separate account treatment without undermining the risk
mitigation and customer protection goals of regulation Sec.
39.13(g)(8)(iii).\32\ SIFMA-AMG recognized that there may be some
instances, such as a customer default, in which separate account
treatment would no longer be appropriate.\33\ SIFMA-AMG stated that an
FCM could agree to first satisfy any amounts owed from agreed assets
related to a separate account, and continue to release funds until the
FCM provided the separate account with a notice of an event of default
under the applicable clearing account agreement, and determined that it
is no longer prudent to continue to separately margin the separate
accounts, provided that such actions are consistent with the FCM's
written internal controls and procedures.\34\ SIFMA-AMG further stated
that, in such instance, the FCM would retain the ability to ultimately
look to funds in other accounts of the customer, including accounts
under different control, and the right to call the customer for
funds.\35\ CME similarly asserted that disbursements on a separate
account basis should not be permitted in certain circumstances, such as
financial distress, that fall outside the ``ordinary course of
business.'' \36\ While CME asserted that the plain language of
regulation Sec. 39.13(g)(8)(iii) unambiguously forbids disbursements
on a separate account basis, CME noted that it would be amenable to the
Commission amending the regulation to permit such disbursements,
subject to certain such risk-mitigating conditions.\37\
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\32\ SIFMA-AMG Letter.
\33\ Id.
\34\ Id.
\35\ Id.
\36\ CME Letter.
\37\ Id.
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SIFMA-AMG and FIA requested that DCR confirm that it would not
recommend that the Commission initiate an enforcement action against a
DCO that permits its clearing FCMs to treat certain separate accounts
of a customer as accounts of separate entities for purposes of
regulation Sec. 39.13(g)(8)(iii),\38\ and confirm that a clearing FCM
may release excess funds from a separate customer account
notwithstanding an outstanding margin call in another account of the
same customer.\39\
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\38\ FIA specifically noted that such a no-action position could
be conditioned on the FCM maintaining certain internal controls and
procedures.
\39\ SIFMA-AMG Letter; First FIA Letter; see also CME Letter.
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In CFTC Letter No. 19-17, DCR stated that, in the context of
separate accounts, the risk management goals of regulation Sec.
39.13(g)(8)(iii) may effectively be addressed if a clearing FCM
carrying a customer with separate accounts meets certain conditions,
which were derived from the Industry Letters and specified in CFTC
Letter No. 19-17.\40\ DCR stated that it would not recommend that the
Commission take enforcement action against a DCO if the DCO permits its
clearing FCMs to treat certain separate accounts as accounts of
separate entities

[[Page 15315]]

for purposes of regulation Sec. 39.13(g)(8)(iii) subject to these
conditions.\41\ The no-action position extended until June 30, 2021, in
order to provide staff with time to recommend, and the Commission with
time to determine whether to conduct and, if so, conduct, a rulemaking
to implement a permanent solution.\42\ CFTC Letter No. 20-28, published
on September 15, 2020, extended the no-action position until December
31, 2021 due to challenges presented by the COVID-19 pandemic.\43\ CFTC
Letter No. 20-28 stated that if the process to consider codifying the
no-action position provided for by CFTC Letter No. 19-17 was not
completed by that date, DSIO and DCR would consider further extending
the no-action position.\44\ The Divisions published CFTC Letter No. 21-
29, further extending the no-action position until September 30,
2022.\45\ On September 15, 2022, the Divisions published CFTC Letter
No. 22-11, which further extended the no-action position until the
earlier of September 30, 2023 or the effective date of any final
Commission action relating to regulation Sec. 39.13(g).\46\ As with
CFTC Letter No. 21-29, this extension was issued in order to provide
additional time for the Commission to consider a rulemaking. As
discussed further below, while the Commission proposed a rulemaking to
codify the no-action position in CFTC Letter No. 19-17, the Commission
has determined to withdraw that proposed rulemaking in light of
comments received and propose a new rulemaking in part 1 of its
regulations to both impose a Margin Adequacy Requirement (as discussed
herein) and simultaneously provide for separate account treatment. On
September 11, 2023, the Divisions published CFTC Letter No. 23-13,
extending the no-action position until the earlier of June 30, 2024 or
the effective date of any final Commission action relating to
regulation Sec. 39.13(g),\47\ to provide further time for staff to
develop and for the Commission to consider the Second Proposal, and to
receive and consider comments thereon and consider and adopt a final
rule.
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\40\ CFTC Letter No. 19-17.
\41\ Id.
\42\ Id.
\43\ CFTC Letter No. 20-28.
\44\ Id.
\45\ CFTC Letter No. 21-29.
\46\ CFTC Letter No. 22-11.
\47\ The Commission notes that this Second Proposal amends Sec.
39.13(g) to refer to proposed regulation Sec. 1.44.
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C. The Commission's First Proposal and its Withdrawal

On April 14, 2023, the Commission published in the Federal Register
a notice of proposed rulemaking--the First Proposal--designed to codify
the no-action position in CFTC Letter No. 19-17.\48\ The First Proposal
proposed to amend regulation Sec. 39.13 to add new paragraph (j)
allowing a DCO to permit a clearing FCM to treat the separate accounts
of customers as accounts of separate entities for purposes of
regulation Sec. 39.13(g)(8)(iii), if such clearing member's written
internal controls and procedures permitted it to do so, and the DCO
required its clearing members to comply with conditions specified in
proposed regulation Sec. 39.13(j).
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\48\ First Proposal.
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The conditions for separate account treatment in proposed
regulation Sec. 39.13(j) were substantially similar to the conditions
specified in CFTC Letter No. 19-17. However, certain conditions in
proposed regulation Sec. 39.13(j) reflected modification of the
conditions in CFTC Letter No. 19-17 on which they were based. Such
modifications included adding further reporting requirements for
clearing members required to cease separate account treatment, an
explicit process for clearing members to resume separate account
treatment, and provisions designed to further clarify the requirement
that separate accounts be on a one business day margin call.
The comment period for the First Proposal was extended once at the
request of a commenter and closed on June 30, 2023.\49\ The Commission
received comments from twelve commenters.\50\ While commenters
generally supported codifying the no-action position in CFTC Letter No.
19-17, six commenters \51\ contended that the Commission should codify
the no-action position in its part 1 FCM regulations (where it would
apply directly to all FCMs) rather than its part 39 DCO regulations
(where it applies only to clearing FCMs, through the instrumentality of
DCOs). Other commenters did not opine on whether the proposed
codification should be in part 1 versus part 39.
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\49\ Derivatives Clearing Organization Risk Management
Regulations to Account for the Treatment of Separate Accounts by
Futures Commission Merchants, 88 FR 39205 (June 15, 2023).
\50\ American Council of Life Insurers (ACLI), CME, FIA,
Intercontinental Exchange, Inc. (ICE), JAC, Managed Funds
Association (MFA), NFA, SIFMA-AMG, Symphony Communications Services,
LLC, and three individuals.
\51\ CME, FIA, ICE, JAC, NFA, and SIFMA-AMG.
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The Commission originally proposed to codify the no-action position
in CFTC Letter No. 19-17 in part 39 in order to hew closely to the
operation of the no-action position: DCOs could choose to permit
clearing FCMs to engage in separate account treatment, provided such
clearing FCMs complied with certain conditions.
In its comment responding to the First Proposal, CME recommended
codification in part 1 to extend the benefits of separate account
treatment to all FCMs equally, whether or not they are clearing members
of one or more DCOs.\52\ CME asserted that codification in part 1 would
eliminate the risk that a current or future DCO chooses not to permit
separate account treatment, noting that CME's own clearing members have
invested significant time and effort in conforming their policies,
systems, and practices to comply with the no-action conditions and
related JAC advisory notices.\53\ As CME further contended, under the
First Proposal, if one DCO chose not to permit separate account
treatment, then an FCM would have to exclude contracts cleared through
that DCO from its customers' separate accounts.\54\ CME argued that
this would likely make separate margining operationally infeasible,
noting that the First Proposal acknowledged that an FCM's futures
account for a customer includes all futures products that the FCM
clears for the customer, and the initial margin requirement for the
account would be the total of the initial margin the FCM charges the
customer for each contract in the account, in each case regardless of
the DCO at which the contracts are cleared.\55\
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\52\ CME Comment Letter.
\53\ Id. (citing regulations Sec. Sec. 1.17, 1.20 and 22.2).
\54\ Id.
\55\ Id.
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CME also asserted that the First Proposal would effectively create
two sets of reporting requirements applicable only to those FCM
clearing members who choose to implement separate account margining at
one or more DCOs, with new reporting requirements that conflict with
regulations in part 1 that require calculation of deficits across all
accounts of a single beneficial owner.\56\
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\56\ Id.
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CME further asserted that codification in part 39 would create new
burdens for DCOs related to conducting examinations for compliance and
the composition of DCO Chief Compliance Officer (CCO) reports, and
would allow

[[Page 15316]]

for disparate implementation by DCOs.\57\ CME additionally opined that
certain proposed requirements in the First Proposal were outside the
scope of DCOs' risk management responsibilities and instead should be
applied directly to FCMs.\58\
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\57\ Id.
\58\ Id.
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In its comment, FIA contended that rules that affect the
obligations of FCMs should be set out in part 1, and, similar to CME,
argued that, if the no-action position is codified in part 1, then non-
clearing FCMs and FCMs that maintain 30.7 accounts for 30.7 customers
pursuant to part 30 of the Commission's regulations would be able to
provide consistent treatment to customers with the same enhanced risk
management standards set forth in the no-action position.\59\ FIA also
asserted that codification in part 1 would allow an FCM to control
whether enhanced standards and separate account treatment are offered
to a specific customer, rather than requiring each DCO to manage and
control whether separate account treatment is permitted.\60\ FIA
additionally contended that the terms and conditions under which
separate account treatment should be permitted or prohibited is a
decision that the Commission, rather than individual DCOs, should
make.\61\
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\59\ FIA Comment letter. As set forth in Commission regulations,
the term ``30.7 account'' means any account maintained by an FCM for
or on behalf of 30.7 customers to hold money, securities, or other
property to margin, guarantee, or secure foreign futures or foreign
option positions. 17 CFR 30.1(g). The term ``30.7 customer'' means
any person who trades foreign futures or foreign options through an
FCM, except for the owner or holder of a proprietary account as
defined in regulation Sec. 1.3. 17 CFR 30.1(f).
\60\ Id.
\61\ Id. FIA noted that FCMs collect customer margin across DCOs
and, if a DCO was to deny its clearing FCMs the right to provide
separate account treatment, or establish different standards, such
FCMs would effectively be denied the right to provide separate
account treatment for their customers. Id.
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In its comment, ICE supported part 1 codification on the basis that
the no-action conditions are mainly relevant to the operation of an FCM
and its relationship with its customers, rather than the operation of a
DCO.\62\ ICE also argued that supervision of FCM compliance with
requirements related to separate accounts would be more consistently
applied if not done at the individual DCO level.\63\ ICE noted that
functions of supervision, examination, and surveillance of the
relationship between FCMs and customers are typically performed by an
FCM's DSRO under Commission regulation Sec. 1.52, rather than by
DCOs.\64\ ICE further contended that it would be more efficient for an
FCM to address issues related to separate account treatment with a
single DSRO rather than each DCO of which it is a member, and that
imposing on DCOs additional burden and costs of supervising separate
account treatment conditions may disincentivize DCOs from permitting
FCMs to engage in separate account treatment.\65\
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\62\ ICE Comment Letter. For instance, ICE contended that DCOs
would not be well-placed to administer or enforce ensuring FCMs
verify the identity of authorized representatives of clients, and
recommended that if the Commission believes it necessary to
establish steps clearing FCMs must take to identify such
representatives, that it applies those requirements directly to such
FCMs. Id. ICE also contended that a DSRO would be better placed than
a DCO to readily assess whether an FCM is applying separate account
treatment consistently. Id.
\63\ Id.
\64\ Id.
\65\ Id.
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In its comment, the JAC opined that conditions for separate account
treatment should be stringent enough to mitigate to the maximum extent
possible the additional risks to other customers of an FCM that
separate account treatment presents, but noted that, in any case, part
39 DCO regulations do not fall under the JAC's self-regulatory
organization surveillance authority.\66\ Similar to CME, the JAC also
asserted that the First Proposal lacked clarity regarding whether it
contemplated bifurcated reporting requirements, because the First
Proposal provided that a clearing FCM would need to calculate certain
separate account customer balances for capital and segregation
differently than under parts 1, 22, or 30, but did not include
amendments to those regulations.\67\ Thus, the JAC argued, it was
unclear whether the JAC would continue to review and monitor an FCM's
financial statements prepared in accordance with those regulations,
while a DCO would monitor the FCM's different computations prepared in
accordance with proposed regulation Sec. 39.13(j).\68\ The JAC also
noted that the First Proposal did not provide for separate account
treatment for non-clearing FCMs and Commission regulation Sec. 30.7
customers.\69\
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\66\ JAC Comment Letter.
\67\ Id.
\68\ Id.
\69\ Id.
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Like other commenters, NFA argued that codification in part 1 would
provide a clear path for an FCM's DSRO to examine it for compliance
with separate account treatment requirements, and would provide greater
clarity to non-clearing FCMs regarding whether they are permitted to
engage in separate account treatment.\70\
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\70\ NFA Comment Letter.
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SIFMA-AMG recommended incorporating the First Proposal's
conditions, with modifications, in Commission regulations Sec. Sec.
1.11 and 1.56, and argued that codification in part 1 would directly
establish obligations for the FCM, rather than indirect obligations
applied through the DCO, with respect to separate treatment of customer
accounts within the CFTC's regulatory framework.\71\ SIFMA-AMG also
argued that codification in part 1 would clarify that the regulatory
obligations of the proposed regulation are the FCM's, and not the DCO's
obligation to evaluate and determine if the FCM's behavior was
appropriate.\72\
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\71\ SIFMA-AMG Comment Letter.
\72\ Id.
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In light of these comments, the Commission has determined to
propose codification of the underlying Margin Adequacy Requirement
(i.e., that an FCM should not permit a customer to withdraw margin
funds from that customer's accounts with the FCM if the net liquidating
value plus the margin deposits remaining in such accounts after such
withdrawal would be insufficient to meet the customer's initial margin
requirements) \73\ along with the conditional modification of that
requirement embodied in CFTC Letter No. 19-17, in part 1 of its
regulations. The Commission believes codification in part 1 can be
effectuated in a manner that provides appropriate flexibility for
market participants, enhanced risk management and protection of
customer funds along with appropriate flexibility for a larger number
of FCMs, and more efficient supervision of compliance with the no-
action conditions proposed to be codified, while maintaining the
effectiveness of those conditions. Therefore, the Commission formally
withdraws its First Proposal, and proposes this new rulemaking to
provide for separate account treatment through part 1 of its
regulations.
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\73\ As discussed further below, this requirement, which
currently is effectively applied only to clearing FCMs, and
predominately to part 1 (futures customer) and part 22 (Cleared
Swaps Customer) accounts, would through codification in part 1
effectively apply to all FCMs, including those that are not members
of a DCO, and would apply to all FCMs' 30.7 accounts.
---------------------------------------------------------------------------

Separate from the question of whether the proposed codification
should be in part 1 versus part 39, commenters provided feedback
related to the proposed codification of individual no-action
conditions. These comments are discussed below. The Commission notes

[[Page 15317]]

that, with some exceptions that it believes are helpful to
understanding differences between the First Proposal and this Second
Proposal, certain comments that appear to be premised specifically on
the First Proposal's proposed codification in part 39 in contrast to
part 1 are not discussed, as the Commission no longer proposes to
codify the no-action position in part 39.
In addition to the comments noted above, FIA supported amending
regulation Sec. 1.56 to add a new paragraph recognizing (i) the right
of an FCM to allow a customer to withdraw excess funds from a separate
account while there is an outstanding margin call in another separate
account, and (ii) that an FCM may agree that, in the absence of certain
conditions, it will not use excess funds from one account to meet an
obligation in another account without the customer's consent.\74\ ACLI,
MFA, and SIFMA-AMG additionally supported codification of
interpretation of regulation Sec. 1.56.\75\
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\74\ FIA Comment Letter. The Commission also received comments
from two individuals generally supportive of the First Proposal.
Additionally, the Commission received a comment from Symphony
Communication Services, LLC, describing ways in which the
commenter's technological capabilities could facilitate compliance
with certain components of the First Proposal. Lastly, the
Commission received a comment from an individual requesting that the
Commission provide a chart explaining to what extent and subject to
what conditions portfolio-based margining is available across
specific products and scenarios. The Commission considers this
request outside the scope of this Second Proposal.
\75\ ACLI Comment Letter; MFA Comment Letter; SIFMA-AMG Comment
Letter.
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While appreciating those comments, the Commission seeks in this
Second Proposal to engage in a narrower task: to directly apply the
Margin Adequacy Requirement to all FCMs, while enacting a narrow
codification (with respect to all FCMs) of the no-action position in
CFTC Letter No. 19-17 with respect to the current Margin Adequacy
Requirement embodied in regulation Sec. 39.13(g)(8)(iii). Amendments
to regulation Sec. 1.56 are outside the scope of the proposed
rulemaking.
As such, where an FCM elects to apply separate account treatment,
such treatment shall apply only for purposes of proposed regulation
Sec. 1.44 (inclusive of the Margin Adequacy Requirement of proposed
regulation Sec. 1.44(b)), including requirements that flow through to,
e.g., Commission regulations Sec. Sec. 1.17, 1.20, 1.32, 1.58, 1.73,
22.2, 30.7, the gross margining requirement of regulation Sec.
39.13(g)(8)(i), and the Margin Adequacy Requirement of proposed
regulation Sec. 39.13(g)(8)(iii). Nothing in this rulemaking is
intended to affect the requirements of regulation Sec. 1.56 or, unless
otherwise expressly indicated, any other Commission regulation.

D. The Commission's Second Proposal

For the reasons discussed above, the Commission proposes to codify
the Margin Adequacy Requirement, along with the no-action position in
CFTC Letter No. 19-17, in part 1. The bulk of the proposed regulation
will be contained in new Commission regulation Sec. 1.44, which is
presently reserved. However, as explained below, the Commission also
proposes supporting amendments in Commission regulations Sec. Sec.
1.3, 1.17, 1.20, 1.32, 1.58, 1.73, 22.2, 30.2, 30.7, and 39.13 to
facilitate implementation of proposed regulation Sec. 1.44. The
Commission is also proposing a number of amendments to address
inadvertent inconsistencies in existing regulations.\76\
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\76\ These are proposed changes to regulation Sec. 1.3 (to
clarify that Saturday is not a business day), regulation Sec.
1.17(b) (to reorganize the wording of the definition of the term
``business day'' for capital purposes to be consistent with the
wording in the proposed amendments to regulation Sec. 1.3, to
clarify that the definition of the term ``risk margin'' includes
both customer and noncustomer accounts, and to change the term
``FCM'' to read ``futures commission merchant''), regulations
Sec. Sec. 1.20(i), 30.7(f)(2), and 22.2(f) to revise the regulatory
description of the calculation of the total amount of funds that an
FCM must hold in segregation for futures customers, Cleared Swaps
Customers, and 30.7 customers, respectively, to align such
description with the Commission's financial forms and the
instructions to such forms, reorganizing regulations Sec. 22.2(f)),
Sec. 1.58(a) and (b) (to clarify that gross margining requirements
for omnibus accounts carried for one FCM at another FCM apply to
cleared swaps as well as to futures and options and futures), and
Sec. 30.2(b) (to clarify, in the context of the exclusion for
applying certain regulations to persons and transactions subject to
the requirements of part 30, existing regulations Sec. Sec. 1.41,
1.42, and 1.43 (which were added in the 2021 part 190 bankruptcy
rulemaking) are not excluded). These proposed changes are discussed
in more detail in the relevant sections below.
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The Commission's Second Proposal represents in part a
reorganization of the First Proposal. The First Proposal largely
mirrored the organization of the no-action position in CFTC Letter No.
19-17, first providing that a DCO could allow a clearing FCM to engage
in separate account treatment (so long as such clearing FCM complied
with certain conditions), then explaining specific circumstances that
would disqualify a clearing FCM from engaging in separate account
treatment, and finally providing the specific risk-mitigating
conditions with which the clearing FCM would be required to comply in
order to provide separate account treatment.
Proposed regulation Sec. 1.44 is comprised of eight paragraphs.
First, proposed regulation Sec. 1.44(a) defines key terms solely for
purposes of proposed regulation Sec. 1.44. Second, proposed regulation
Sec. 1.44(b) incorporates for all FCMs, and for all accounts,\77\ the
same Margin Adequacy Requirement that DCOs are obligated in regulation
Sec. 39.13(g)(8)(iii) to require their clearing FCMs to apply. Third,
proposed regulation Sec. 1.44(c) makes clear that an FCM can engage in
separate account treatment only during the ``ordinary course of
business,'' a term that is defined in proposed regulation Sec. 1.44.
Fourth, proposed regulation Sec. 1.44(d) explains how FCMs may elect
to engage in separate account treatment for one or more customers.
Fifth, proposed regulation Sec. 1.44(e) enumerates events inconsistent
with the ordinary course of business and contains requirements for FCMs
related to cessation of separate account treatment upon the occurrence
of such events, and resumption of separate account treatment upon the
cure of such events. Sixth, proposed regulation Sec. 1.44(f) contains
the requirement that each separate account be on a ``one business day
margin call'' and sets out regulations designed to explain the meaning
of a one business day margin call for purposes of proposed regulation
Sec. 1.44. Seventh, proposed regulation Sec. 1.44(g) sets forth
capital, risk management, and segregation calculation requirements with
which FCMs would be required to comply with respect to accounts for
which the FCM has elected separate treatment. Eighth, proposed
regulation Sec. 1.44(h) sets out information and disclosure
requirements for FCMs that engage in separate account treatment.
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\77\ Proposed regulation Sec. 1.44(a) defines ``account'' to
include futures accounts and Cleared Swaps Customer Accounts, both
of which terms are defined in regulation Sec. 1.3, and 30.7
accounts. A 30.7 account means any account maintained by an FCM for
or on behalf of 30.7 customers to hold money, securities, or other
property to margin, guarantee, or secure foreign futures or foreign
options. 17 CFR 30.1(g).
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In its comment responding to the First Proposal, the JAC
recommended adding two additional conditions for separate account
treatment. First, the JAC supported adding a condition requiring a
clearing FCM's risk-based capital requirement to be adjusted to capture
the risk of accounts receiving separate treatment.\78\ As discussed
below, the Commission is proposing to amend regulation Sec. 1.17 to
revise an FCM's risk-based capital requirement to capture the risks of
separate accounts. Second, the JAC supported adding a condition
requiring accounts treated as separate accounts to be identified as

[[Page 15318]]

such in an FCM's books and records, including on customer
statements.\79\ The Commission's proposed regulation Sec. 1.44(d)(1),
as discussed below, would provide that an FCM must include each
separate account customer on a list of separate account customers
maintained in its books and records. While an FCM may elect to
specifically identify separate accounts as such in customer statements,
the Commission expects that FCMs will be able to readily identify all
of their customer accounts receiving separate treatment.
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\78\ JAC Comment Letter.
\79\ Id.
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II. Proposed Regulations

Section 8a(5) of the CEA \80\ authorizes the Commission ``to make
and promulgate such rules and regulation as, in the judgment of the
Commission, are reasonably necessary to effectuate any of the
provisions, or to accomplish any of the purposes, of'' the CEA. The
Commission is proposing these rules pursuant to section 8a(5) as
reasonably necessary to effectuate sections 4d(a)(2) and 4d(f)(2),\81\
providing for the segregation and protection of, respectively, futures
customer funds and Cleared Swaps Customer Collateral, and
4(b)(2)(A),\82\ providing for the safeguarding of customers' funds in
connection with foreign futures and foreign option transactions. As
additional authority, the Commission is also proposing these rules as
reasonably necessary to effectuate section 4f(b), which requires an FCM
to meet minimum financial requirements prescribed by the Commission as
necessary to ensure that the firm meets its obligations.\83\ Moreover,
as further additional authority, the Commission is also proposing these
rules as reasonably necessary to accomplish the purposes of the CEA as
set forth in section 3(b); \84\ specifically, ``the avoidance of
systemic risk'' and ``protect[ing] all market participants from . . .
misuses of customer assets.''
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\80\ 7 U.S.C. 12a(5).
\81\ 7 U.S.C. 6d(a)(2) and (f)(2).
\82\ 7 U.S.C. 6(b)(2)(A).
\83\ 7 U.S.C. 6f(b).
\84\ 7 U.S.C. 5(b).
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Accordingly, the Commission preliminarily believes that the
amendments proposed herein relating to the Margin Adequacy Requirement,
and the modification of this requirement to permit, subject to certain
prescribed conditions, separate account treatment in connection with
the withdrawal of customer initial margin, support the customer funds
protection and risk management provisions and purposes of the CEA. As
further described below, the Commission also preliminarily believes
that preventing the under-margining of customer accounts and mitigating
the risk of a clearing member default, or the default of a non-clearing
FCM, and the potential for systemic risk in either scenario, is
effectively addressed by the standards set forth in the proposed
regulation.
All FCMs are currently subject to a detailed set of requirements
designed to provide effective protection for customer funds. These
include, for futures accounts, regulations Sec. Sec. 1.20 (requiring
segregation), 1.22 (requiring, inter alia, residual interest to cover
undermargined amounts), and 1.23 (requiring FCMs to maintain residual
interest in segregated accounts up to a targeted amount that they
determine based on specified considerations), as well as similar
requirements with respect to Cleared Swaps Customer Accounts
(respectively, regulations Sec. Sec. 22.2(d) and (f), and 22.17), and
30.7 accounts (regulation Sec. 30.7).
Regulation Sec. 39.13(g)(8)(iii) provides an additional layer of
protection, but only with respect to FCMs that are clearing members of
DCOs. There is no analogous Margin Adequacy Requirement applicable to
FCMs that are not clearing members of DCOs. As discussed above,
regulation Sec. 39.13(g)(8)(iii) is designed to mitigate the risk that
a clearing member fails to hold, from a customer, funds sufficient to
cover the required initial margin for the customer's cleared positions
and, in light of the use of omnibus margin accounts, ``avoid the misuse
of customer funds'' by mitigating the likelihood that the clearing
member will effectively cover one customer's margin shortfall using
another customer's funds.\85\ Regulation Sec. 39.13(g)(8)(iii)
provides a risk mitigation provision for DCOs, clearing FCMs, and
customers. The effect of the staff no-action position is to allow DCOs
to permit clearing FCMs to engage in separate account treatment for
purposes of that provision, but subject to conditions designed to
maintain the provision's risk mitigating effects.
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\85\ Section 3(b) of the CEA, 7 U.S.C. 5(b).
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Where it is now proposing to establish requirements for separate
account treatment for all FCMs by adding a similar Margin Adequacy
Requirement to part 1, the Commission seeks to replicate the same
regulatory structure on an all-FCM basis, and furthers the customer
fund protection and risk mitigation purposes of the CEA \86\ by
implementing measures designed to further ensure that all FCMs, whether
clearing or non-clearing, do not create or exacerbate an under-
margining scenario.
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\86\ Section 3(b) of the CEA, 7 U.S.C. 5(b) (It is the purpose
of this Act to ensure the financial integrity of all transactions
subject to this Act and the avoidance of systemic risk and to
protect all market participants from misuses of customer assets)
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Similar to the First Proposal, the requirements for separate
account treatment proposed herein are designed to ensure that FCMs
carry out separate account treatment in a consistent and documented
manner, monitor customer accounts on a separate and combined basis,
identify and act upon instances of financial or operational distress
that necessitate a cessation of separate account treatment, provide
appropriate disclosures to customers \87\ regarding separate account
treatment, and apprise their DSROs when they apply separate account
treatment or an event has occurred that would necessitate cessation of
separate account treatment.\88\
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\87\ In this proposal, references to a ``customer'' are to a
direct customer of the FCM in question. Thus, where non-clearing FCM
N clears through clearing FCM C, a customer (including a separate
account customer) of N is not considered a customer of C.
\88\ For the avoidance of doubt, the Second Proposal permits an
FCM to elect to engage in separate account treatment. It neither
requires an FCM to engage in such treatment nor requires a customer
of an FCM that elects to engage in separate account treatment to
elect to have its accounts with such FCM treated as separate
accounts of separate entities. Thus, separate account treatment
requires an affirmative election of both the FCM and the customer.
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The Second Proposal is designed to extend the customer protection
and risk management benefits of regulation Sec. 39.13(g)(8)(iii) to
all FCMs and all of their customer accounts, and to provide an
alternative means of achieving those risk management goals if the FCM
elects to permit customers to maintain separate accounts under the
proposal.\89\ Additionally, as discussed further below in the cost
benefit considerations, because a number of clearing FCMs have already
implemented the conditions set forth in CFTC Letter No. 19-17, a number
of FCMs will have already implemented, in significant part, the
requirements proposed herein.
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\89\ As a result, proposed regulation Sec. 1.44 would prohibit
the application of portfolio margining or cross-margining treatment
between separate accounts of the same customer, but would not
prohibit the application of such treatments within a particular
separate account of a customer.
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Request for Comment
Question 1: The Commission requests comment regarding whether, in
light of changes made in this Second Proposal relative to the First
Proposal, it should consider any conditions additional to those
contained in proposed regulation Sec. 1.44 below, or modify or remove
any of the conditions proposed herein.
Question 2: The Commission requests comment regarding whether the

[[Page 15319]]

interaction between proposed regulation Sec. 1.44(g) through (h) and
other regulations under parts 1, 22, and 30 affected by the proposed
requirements therein (e.g., regulations Sec. Sec. 1.17, 1.20, 1.22,
1.23, 1.32, 1.55, 1.58, 1.73, 22.2, 30.2, and 30.7) is sufficiently
clear.

A. Proposed Amendments to Regulation Sec. 1.3

The definitions contained in Commission regulation Sec. 1.3 are
key to understanding and interpreting the Commission's regulations,
including part 1 FCM regulations. The Commission believes the
provisions of proposed regulation Sec. 1.44 necessitate an amendment
to regulation Sec. 1.3.
The Commission proposes to amend the definition of ``business day''
in regulation Sec. 1.3. Current regulation Sec. 1.3 provides, in
relevant part, that ``business day'' means any day other than a Sunday
or holiday. The Commission proposes to expand this definition to
confirm that the term encompasses any day other than a Saturday,
Sunday, or holiday. This term, which is applicable to proposed
regulation Sec. 1.44(f), setting forth the requirement that separate
accounts be on a one business day margin call, is similar to the
proposed definition of ``United States business day,'' which appeared
in the First Proposal.\90\ As in the First Proposal, however, the term
is intended to encompass days on which banks and custodians are open in
the United States to facilitate payment of margin. Thus, for the
avoidance of doubt, ``holiday'' in this context refers to holidays in
the United States.
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\90\ Under the First Proposal, the term ``United States business
day'' referred to weekdays not including federal holidays as
established by 5 U.S.C. 6103.
---------------------------------------------------------------------------

The Commission notes that, notwithstanding the current definition
of the term in regulation Sec. 1.3, which is used in a variety of
regulations, in actual practice, Saturdays are generally not treated as
business days in the markets,\91\ by market participants, or for
regulatory purposes.\92\ The Commission is thus proposing to change the
definition of ``business day'' in regulation Sec. 1.3 to conform to
that reality.
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\91\ It is true that some markets are moving toward 24/7
operation. The Commission will continue to monitor these
developments, and consider further rulemaking in this area as
appropriate. Nonetheless, a definition of business days that
includes Saturday, but not Sunday, does not reflect present or
plausible future reality.
\92\ For instance, Saturdays are treated as non-business days
for purposes of swaps reporting under parts 43 and 45 of the
Commission's regulations, 17 CFR 43.1; 17 CFR 45.2, execution of
confirmations by swap dealers, 17 CFR 23.501(c)(5)(ii), and under
the Commission's part 39 DCO regulations, 17 CFR 39.2 (defining an
intraday business day period). See also, e.g., CFTC, Guidebook for
Part 17.00: Reports by Reporting Markets, Futures Commission
Merchants, Clearing Members, and Foreign Brokers, at 18, May 30,
2023 (noting that for purposes of part 17.00 reports, ``reporting
entities may elect to not consider Saturdays to be a business day,
as Saturday is not commonly known as such'').
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Request for Comment
Question 3: The Commission requests comment regarding whether its
proposal to revise the definition of ``business day'' in regulation
Sec. 1.3 would result in any adverse consequences for any market
participants.

B. Proposed Amendments to Regulation Sec. 1.17

Regulation Sec. 1.17 currently establishes minimum financial
requirements for FCMs. In this regard, regulation Sec. 1.17(a)(1)(i)
provides that each person registered as an FCM must maintain adjusted
net capital equal to, or in excess of, the greatest of: (1) $1 million
(or $20 million if the FCM is also registered as a swap dealer); (2)
eight percent of the total ``risk margin'' required on the positions in
customer and noncustomer accounts \93\ carried by the FCM; (3) the
amount of adjusted net capital required by NFA as a registered futures
association; or (4) for an FCM registered as a securities broker or
dealer with the Securities and Exchange Commission (SEC), the amount of
net capital required by SEC rule Sec. 15c3-1.\94\ For purposes of
regulation Sec. 1.17(a)(1)(i), the term ``risk margin'' is defined by
paragraph (b)(8) of regulation Sec. 1.17 to generally mean the level
of maintenance margin or performance bond required for customer and
noncustomer positions established by the applicable exchanges or
clearing organizations.
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\93\ The term ``noncustomer account'' generally means the
accounts of affiliates of an FCM or employees of an FCM. See 17 CFR
1.17(b)(4).
\94\ 17 CFR 240.15c3-1.
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The Commission is proposing several amendments to regulation Sec.
1.17 to reflect the regulatory capital treatment of separate accounts
that would result from the implementation of proposed regulation Sec.
1.44, including the conditions contained in proposed regulation Sec.
1.44(g)(3) discussed below. These proposed amendments were not part of
the First Proposal. As a general matter, the proposed amendments to
regulation Sec. 1.17 are designed to ensure that FCMs risk manage
separate accounts consistently, and cannot revert to calculating
minimum financial requirements on a combined account basis where such
calculations would tend to reflect less risk and reduced financial
requirements for a customer than if each of the customer's separate
accounts were treated as an account of a distinct customer without
regard to the same customer's other separate accounts.
Consistent with the above intent, the Commission is proposing to
expand the list of modifiers to the definition of the term ``risk
margin'' for an account by adding proposed paragraph (b)(8)(v) to
regulation Sec. 1.17, providing that if an FCM carries separate
accounts for separate account customers pursuant to proposed regulation
Sec. 1.44, then the FCM shall calculate the risk margin pursuant to
regulation Sec. 1.17(a)(1)(i)(B)(1) as if each separate account is
owned by a separate entity. The Commission notes that, under the
proposed regulation, risk margin would be calculated on an individual
basis for each separate account. Calculating risk margin separately for
each separate account would eliminate the potential for portfolio
margining offsets based on positions between separate accounts of the
same separate account customer.\95\ Therefore, the proposal to treat
separate accounts as accounts of separate entities would either
increase, or leave unchanged, the total risk margin requirement, and
thus the minimum adjusted net capital requirement, for an FCM providing
separate account treatment.\96\ The proposed addition of paragraph
(b)(8)(v) to regulation Sec. 1.17 is intended to further clarify that,
pursuant to the Commission's FCM capital rule, an FCM that elects to
permit separate account treatment must compute the risk margin amount
for separate

[[Page 15320]]

accounts as if each account is an account of a separate entity.
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\95\ As noted in regulation Sec. 39.13(g)(4), a DCO may allow
reduction in initial margin requirements for related positions if
the price risks with respect to such positions are significantly and
reliably correlated. This includes cases where (A) The products on
which the positions are based are complements of, or substitutes
for, each other. An example might be long versus short positions in
oil and natural gas, both of which may be used for generating
energy. However, portfolio margining is applicable only to accounts
for the same customer. See regulation Sec. 39.13(g)(8)(i)
(requiring collection of initial margin on a gross basis for each
clearing member's customer accounts). So, if a customer has, in a
single account, both long oil positions and short natural gas
positions, they may benefit from a reduction in initial margin
requirements for the two risk-offsetting positions. However, if
those positions are in different separate accounts of the customer
under this proposal, the positions would not lead to an initial
margin reduction as the positions would not be margined on a
combined or portfolio basis.
\96\ As noted above, per regulation Sec. 1.17(a)(1)(i), the
adjusted net capital requirement for an FCM is the greatest of a
number of calculations, one of which is eight percent of the total
risk margin requirement as defined in regulation Sec. 1.17(b)(8).
Thus, a calculation that would increase, or leave the same, the risk
margin requirement would correspondingly increase, or leave the
same, the adjusted net capital requirement.
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The Commission further notes that the proposed amendment to the
definition of the term ``risk margin'' in regulation Sec. 1.17(b)(8)
to reflect separate accounts, and the resulting potential increase in
an FCM's minimum adjusted net capital requirement under regulation
Sec. 1.17(a)(1)(i), would also impact other regulations that impose
obligations on FCMs based on their level of adjusted net capital. For
example, regulation Sec. 1.17(h) conditions an FCM's ability to repay
or prepay subordinated debt obligations on the FCM maintaining an
amount of adjusted net capital that, after taking into effect the
amount of the subordinated debt payment and other subordinate debt
payments maturing within a set time period, exceeds the FCM's minimum
adjusted net capital requirement by 120 percent to 125 percent, as
specified in the applicable provision of regulation Sec. 1.17(h).\97\
The proposed amendments to the minimum capital requirements would also
impact an FCM's obligation to provide certain notices to the Commission
and to the FCM's DSRO under Commission regulation Sec. 1.12.\98\
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\97\ See, e.g., 17 CFR 1.17(h)(2)(vii) which generally provides,
subject to certain conditions, that an FCM may not make a prepayment
on an outstanding subordinated debt obligation if such payment would
result in the FCM maintaining less than 120 percent of its minimum
adjusted net capital requirement.
\98\ See, e.g., 17 CFR 1.12(a), which requires an FCM to provide
notice to the Commission and the firm's DSRO if the FCM's adjusted
net capital at any time is less than the minimum required by
regulation Sec. 1.17.
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The Commission additionally notes that, as discussed further below,
it is additionally proposing to amend regulation Sec. 1.58 to provide
that, where a clearing FCM carries an omnibus customer account for a
non-clearing FCM, and the non-clearing FCM applies separate account
treatment, then such non-clearing FCM must calculate initial and
maintenance margin for purposes of regulation Sec. 1.58(a) separately
for each separate account. These proposed amendments to regulation
Sec. 1.58 are discussed further below.
Second, the Commission proposes to amend regulation Sec.
1.17(c)(2), which defines ``current assets'' that an FCM may recognize
and include in computing its net capital. Regulation Sec. 1.17(c)(2)
currently defines ``current assets'' to include cash and other assets
or resources commonly identified as those that are reasonably expected
to be realized in cash or sold during the next 12 months. Regulation
Sec. 1.17(c)(2)(i), however, provides that an FCM must exclude from
current assets any unsecured receivables resulting from futures,
Cleared Swaps, or 30.7 accounts that liquidate to a deficit or contain
a debit ledger balance only, provided, however, that the FCM may
include a deficit or debit ledger balance in current assets until the
close of business on the business day following the date on which the
deficit or debit ledger balance originated (provided, in turn, that the
account had timely satisfied the previous day's deficits or debit
ledger balances).
The Commission is proposing to amend regulation Sec. 1.17(c)(2)(i)
to provide explicitly that if an FCM carries separate accounts for
separate account customers pursuant to proposed regulation Sec. 1.44,
then the FCM must treat each separate account as an account of a
separate entity. Accordingly, the FCM must exclude each unsecured
separate account that liquidates to a deficit or contains a debit
ledger balance only from current assets in its calculation of net
capital, provided, however, that if the separate account is subject to
a call for margin by the FCM it may be included in current assets until
the close of business on the business day following the date on which
the deficit or debit ledger balance originated, provided that the
separate account timely satisfied previous day's debit or deficits in
its entirety. If the separate account does not satisfy a previous day's
deficit in its entirety, then the deficit for the separate account, and
any other deficits of the separate account customer in other separate
accounts carried by the FCM, shall not be included in current assets
until all such calls are satisfied in their entirety. The proposed
amendment to regulation Sec. 1.17(c)(2)(i) would provide the same
capital treatment to separate accounts as is currently provided
customer accounts that liquidate to deficits or contain debit ledger
balances, and is consistent with corresponding conditions to the no-
action position in CFTC Letter No. 19-17.\99\
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\99\ CFTC Letter No. 19-17. CFTC Letter No. 19-17 provides that
an ``FCM shall record each separate account independently in the
FCM's books and records, i.e., the FCM shall record separate
accounts as a receivable (debit/deficit) or payable with no offsets
between the other separate accounts of the same customer.'' Id.
(Condition 6.) CFTC Letter No. 19-17 also provides that ``the
receivable from a separate account shall only be considered secured
(a current/allowable asset) based on the assets of that separate
account, not on the assets held in another separate account of the
same customer.'' Id. (Condition 7.)
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Third, the Commission proposes to amend regulation Sec.
1.17(c)(4), which defines the term ``liabilities'' for purposes of an
FCM calculating its net capital. Regulation Sec. 1.17(c)(4) generally
defines the term ``liabilities'' to mean the total money liabilities of
an FCM arising in connection with any transaction whatsoever, including
economic obligations of an FCM that are recognized and measured in
conformity with generally accepted accounting principles. Regulation
Sec. 1.17(c)(4) also provides that for purposes of computing net
capital, an FCM may exclude from its liabilities funds held in
segregation for futures customers, Cleared Swaps Customers, and 30.7
customers, provided that such segregated funds are also excluded from
the FCM's current assets in computing the firm's net capital. The
Commission is proposing to amend regulation Sec. 1.17(c)(4)(ii) to
explicitly provide that an FCM that carries the separate accounts of
separate account customers pursuant to proposed regulation Sec. 1.44
must compute the amount of money, securities, and property due to a
separate account customer as if each separate account of the separate
account customer is a distinct customer. The Commission is further
proposing to amend regulation Sec. 1.17(c)(4)(ii) to provide that an
FCM, in computing its net capital, may exclude funds held in
segregation for separate account customers from the FCM's liabilities,
provided that funds held in segregation for separate account customers
are also excluded from the FCM's current assets. The purpose of the
proposed amendment is to ensure that an FCM, in computing its net
capital, reflects separate accounts in a consistent manner in
determining its total current assets and liabilities.
Fourth, the Commission proposes to amend regulation Sec.
1.17(c)(5), which defines the term ``adjusted net capital.'' Regulation
Sec. 1.17(c)(5)(viii) provides, in relevant part, that adjusted net
capital means net capital minus, among other items detailed in
regulation Sec. 1.17(c)(5), the amount of funds required in each
customer account to meet maintenance margin requirements of the
applicable board of trade or, if there are no such maintenance margin
requirements, clearing organization margin requirements applicable to
the account's positions. FCMs are allowed to apply (that is, to reduce
the amount of this deduction from capital by) ``calls for margin or
other required deposits which are outstanding no more than one business
day.'' However, once a customer fails to meet a margin call within one
business day, the FCM loses the one business day ``grace period'' for
receiving any of that customer's future margin calls, until the point
in time at which the customer is no longer undermargined.

[[Page 15321]]

Thus, if, due to activity on Monday, Customer A is undermargined by
$150, and the FCM calls Customer A for that margin on Tuesday, the FCM
does not need to deduct that $150 from its net capital in computing its
adjusted net capital, so long as the margin call is met by the close of
business on Wednesday. Moreover, if Customer A, due to activity on
Tuesday, is undermargined by an additional $100, and the FCM calls for
that additional $100 on Wednesday, the FCM does not need to deduct that
additional $100 on Wednesday. If Customer A meets the $150 call by
close of business Wednesday, and the $100 call by close of business on
Thursday, then no deduction need be taken for either the $150 or the
$100 margin calls. However, if Customer A fails to meet Tuesday's $150
call by close of business on Wednesday, then the FCM must deduct both
the $150 from Tuesday and the $100 from Wednesday (thus a total of
$250), as well as any future undermargined amounts until Customer A
cures its entire undermargined amount. Again, once a customer fails to
meet a margin call within one business day, the FCM loses the one
business day ``grace period'' for that customer meeting any of its
future margin calls, until the point in time at which the customer is
no longer undermargined.
The Commission proposes to amend regulation Sec. 1.17(c)(5)(viii)
to provide that an FCM that carries separate accounts for a separate
account customer pursuant to proposed regulation Sec. 1.44 must
compute the amount of funds required to meet maintenance margin
requirements for each separate account as if the account was owned by a
distinct customer. However, if a margin call for any separate account
of a separate account customer is outstanding for more than one
business day, then (consistent with the treatment of multiple margin
calls for a single customer described in the previous paragraph), no
margin call for that separate account customer will benefit from the
one business day grace period until the point in time at which all
margin calls for the separate accounts of that separate account
customer have been met in full.
As discussed further below in the context of proposed regulation
Sec. 1.44(f), the concepts of margin calls that are outstanding no
more than one business day (for purposes of Sec. 1.17(c)(5)(viii)),
and meeting a one business day margin call (for purposes of Sec.
1.44(f)) are separate and distinct--it is possible that a separate
account customer may meet the test for the first, but not the second,
or may meet the test for the second, but not the first.
The Commission notes that its proposed amendments to regulation
Sec. 1.17 also include a number of technical changes designed to
improve clarity and promote consistency with other Commission
regulations.\100\
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\100\ E.g., changes to punctuation and substitution of level of
maintenance margin or performance bond required for the customer and
noncustomer positions for level of maintenance margin or performance
bond required for the customer or noncustomer positions with respect
to the meaning of risk margin for an account. See, e.g., proposed
regulation Sec. 1.17(b)(8). The Commission is further proposing to
replace the term ``FCM'' in regulation Sec. 1.17(b)(8) with
``futures commission merchant.'' The Commission is also proposing to
reorganize paragraph Sec. 1.17(c)(5)(viii) into sub-paragraphs (A),
(B), (C), and (D) to enhance clarity. The Commission is additionally
proposing to reorganize the wording of the definition of the term
``business day'' in regulation Sec. 1.17(b)(6) to read any day
other than a Saturday, Sunday, or holiday rather than any day other
than a Sunday, Saturday, or holiday. This change would align the
wording with the wording of the term ``business day'' in proposed
regulation Sec. 1.3.
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C. Proposed Amendments to Regulations Sec. Sec. 1.20, 1.32, 22.2, and
30.7

As previously stated, a fundamental purpose of the CEA is to
provide for the protection of market participants from misuses of
customer assets.\101\ Regulations Sec. Sec. 1.32, 22.2(g), and 30.7(l)
are designed in part to further this purpose by requiring each FCM
carrying accounts for futures customers, Cleared Swaps Customers, or
30.7 customers, respectively, to perform a daily computation of, and to
prepare a daily record demonstrating compliance with, the FCM's
obligation to hold a sufficient amount of funds in designated customer
segregated accounts to meet the aggregate credit balances of all of the
FCM's futures customers, Cleared Swaps Customers, and 30.7
customers.\102\ An FCM is required to prepare the daily segregation
calculations reflecting customer account balances as of the close of
business each day, and to submit the applicable segregation statements
electronically to the Commission and to the FCM's DSRO by noon the next
business day.
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\101\ Section 3(b) of the CEA, 7 U.S.C. 5(b).
\102\ Each FCM that carries accounts for futures customers,
Cleared Swaps Customers, and 30.7 customers is required to prepare
daily statements demonstrating compliance with the applicable
segregation requirements. For futures customers, the FCM must
prepare a daily Statement of Segregation Requirements and Funds in
Segregation for Customers Trading on U.S. Commodity Exchanges (17
CFR 1.32(a)) (``Futures Segregation Statement''); for Cleared Swaps
Customers, the FCM must prepare a daily Statement of Cleared Swaps
Customer Segregation Requirements and Funds in Cleared Swaps
Customer Accounts under section 4d(f) of the CEA (17 CFR 22.2(g)(1)
through (4)) (``Cleared Swaps Segregation Statement''); and for 30.7
customers, the FCM must prepare a daily Statement of Secured Amounts
and Funds Held in Separate Accounts for 30.7 Customers pursuant to
Commission Regulation 30.7 (17 CFR 30.7(l)(1)). The statements
listed above are part of the Commission's Form 1-FR-FCM, which
contains the financial reporting templates required to be filed by
FCMs.
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The Commission is proposing to amend regulations Sec. Sec. 1.32,
22.2, and 30.7 to provide that an FCM that permits separate accounts
pursuant to proposed regulation Sec. 1.44 must perform its daily
segregation calculations, and prepare its daily segregation statements,
by treating the accounts of separate account customers as accounts of
separate entities. The proposed amendments would add new paragraph (l)
to regulation Sec. 1.32, new paragraph (g)(11) to regulation Sec.
22.2, and new paragraph (l)(11) to regulation Sec. 30.7. The purpose
of the proposed amendments is to establish the manner in which these
existing segregation and reporting obligations apply to FCMs that
permit separate accounts pursuant to proposed regulation Sec. 1.44.
Regulations Sec. Sec. 1.32, 22.2, and 30.7 require an FCM to prepare
one daily segregation computation, and submit one segregation schedule,
for each of its futures customer funds, Cleared Swaps Customer
Collateral, and 30.7 customer funds, respectively. The proposed
amendments to regulations Sec. Sec. 1.32, 22.2(g), and 30.7(l) provide
that an FCM that permits separate accounts, in preparing such
computation and segregation schedule, would be required to record each
separate account as if it was an account of a separate entity, and
include all separate accounts with other futures accounts, Cleared
Swaps Customer Accounts, and 30.7 accounts, as applicable, carried by
the FCM that are not separate accounts.
In addition, the proposed amendments would provide that an FCM, in
computing its segregation obligations, may offset a net deficit in a
particular separate account customer's separate account against the
current value of any readily marketable securities held by the FCM for
the separate account customer, provided that the readily marketable
securities are held as margin collateral for the specific separate
account that is in deficit. Readily marketable securities held for
other separate accounts of the separate account customer may not be
used to offset the separate accounts that is in deficit.\103\ The
proposed amendments to regulations Sec. Sec. 1.32, 22.2(g), and
30.7(l) with respect to the offsetting of a net deficit in a customer's
account by the value of readily marketable securities

[[Page 15322]]

held in the customer's account are consistent with how an FCM currently
offsets a net deficit in a customer's account that is margined by
securities. In addition, the proposed amendments are consistent with
the separate account conditions to the no-action position in CFTC
Letter No. 19-17.\104\
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\103\ I.e., if separate account customer S has separate accounts
A and B, then readily marketable securities held for separate
account A could not be used to offset a deficit in separate account
B, and vice versa.
\104\ See CFTC Letter No. 19-17 (providing, among other
conditions for separate account treatment, that ``[e]ach receivable
from a separate account shall be `grossed up' on the applicable
segregation, secured or cleared swaps customer statement; thus, an
FCM shall use its own funds to cover the debit/deficit of each
separate account.'').
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The Commission is also proposing to amend regulation Sec. 22.2(f)
to revise the regulatory description of the stated calculation of the
total amount of funds that an FCM is required to hold in segregation
for Cleared Swaps Customers. The proposed amendment would (i) correct
an error included in the drafting of the description of the calculation
when the regulation was originally adopted in 2012; and (ii) align the
regulatory text describing the segregation calculation set forth in
regulation Sec. 22.2(f) with the calculation performed on the Cleared
Swaps Segregation Statement that is submitted to the Commission each
day by FCMs with Cleared Swaps Customers pursuant to regulation Sec.
22.2(g). The proposed amendment would be applicable across FCMs with
Cleared Swaps Customers, whether or not such FCMs maintain separate
accounts.
The segregation calculation required by regulation Sec. 22.2(f) is
intended to ensure that an FCM holds, at all times, a sufficient amount
of funds in segregation to cover its total financial obligation to all
Cleared Swaps Customers. Compliance with the segregation requirements
helps ensure that an FCM is not using the funds of one Cleared Swaps
Customer to cover a deficit in the Cleared Swaps Customer Account of
another Cleared Swaps Customer, and further helps ensure that an FCM
holds sufficient funds in segregation to transfer the Cleared Swaps
Customer Accounts, including the Cleared Swaps and the Cleared Swaps
Customer Collateral, to a transferee FCM if the transferor FCM becomes
insolvent.
To achieve the regulatory objective noted above, regulation Sec.
22.2(f)(2) currently requires an FCM to calculate its minimum
segregation requirement as the sum of the net liquidating equities of
each Cleared Swaps Customer Account with a positive account balance
carried by the firm. The net liquidating equity of a Cleared Swaps
Customer Account is explicitly calculated as the sum of the market
value of any funds held in the Cleared Swaps Customer Account of a
Cleared Swaps Customer (including readily marketable securities), as
adjusted positively or negatively by, among other things, any
unrealized gains or losses on open Cleared Swaps positions, the value
of open long option positions and short option positions, fees charged
to the account, and authorized withdrawals. To the extent that the
calculation results in a net liquidating equity that is positive, the
Cleared Swaps Customer Account has a credit balance.\105\ To the extent
that the calculation results in a net liquidating equity that is
negative, the Cleared Swaps Customer Account has a debit balance.\106\
Regulation Sec. 22.2(f)(4) provides that an FCM must hold, at all
times, a sufficient amount of funds in segregation to meet the total
net liquidating equities of all Cleared Swaps Customer Accounts with
credit balances, and further provides that the FCM may not offset this
total by any Cleared Swaps Customer Accounts with debit balances.
---------------------------------------------------------------------------

\105\ 17 CFR 22.2(f)(3).
\106\ Id.
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With respect to Cleared Swaps Customer Accounts with debit
balances, regulation Sec. 22.2(f)(5) further requires the FCM to
include in the total funds required to be held in segregation all debit
balances to the extent secured by readily marketable securities held
for the particular Cleared Swaps Customers that have debit balances.
The required addition of debit balance accounts in regulation Sec.
22.2(f)(5) was intended to be consistent with the long-standing Futures
Segregation Statement contained in the Form 1-FR-FCM and the Form 1-FR-
FCM Instructions Manual.\107\ An error, however, was made in drafting
the description of the details of the segregation calculation in
regulation Sec. 22.2(f)(5). Specifically, as noted above, regulation
Sec. 22.2(f)(5) requires an FCM to include in the total segregation
requirement any Cleared Swaps Customer Accounts with debit balances
that are secured by readily marketable securities. However, the full
value of the readily marketable collateral is part of the calculation
of the net liquidating equity of the account. Therefore, a Cleared
Swaps Customer Account with a debit balance would never have additional
readily marketable securities available to offset a debit balance.\108\
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\107\ In adopting the final regulation Sec. 22.2(f), the
Commission stated that proposed regulation Sec. 22.2(f) set forth
an explicit calculation for the amount of Cleared Swaps Customer
Collateral that an FCM must maintain in segregation that did not
materially differ from the calculation of the amount of funds an FCM
is required to hold in segregation under the Form 1-FR-FCM for
futures customers. The Commission adopted final regulation Sec.
22.2(f) as proposed. Protection of Cleared Swaps Customer Contracts
and Collateral; Conforming Amendments to the Commodity Broker
Bankruptcy Provisions; Final Rule, 77 FR 6336, at 6352-6353 (Feb. 7,
2012).
\108\ For example, if a Cleared Swaps Customer Account was
comprised of cash of $300, securities of $200, and an unrealized
loss on open Cleared Swaps of $600, the account would have a net
equity debit balance of $100 under regulation Sec. 22.2(f). There
are no additional securities that the FCM may use to secure the $100
debit balance and, therefore, the FCM is required to increase its
segregation requirement by $100 to ensure that there are sufficient
funds in segregation to cover the FCM's obligation to all Cleared
Swaps Customers with a credit balance.
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The segregation calculation required under regulation Sec. 1.32
for futures accounts, and the Commission's Form 1-FR-FCM and related
Form 1-FR-FCM Instructions Manual, differs from the description as
currently written in regulation Sec. 22.2(f)(4) and (5) with respect
to the offsetting of debit balances by readily marketable securities.
Specifically, an FCM is required to calculate the net equity of each
futures customer excluding the value of any noncash collateral held in
the account.\109\ If the calculation results in a debit balance, the
FCM is permitted to offset the debit balance by the fair market value
of any readily marketable securities (after application of applicable
securities haircuts set forth in the regulation).\110\
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\109\ The Form 1-FR-FCM Instructions Manual provides that a
customer account is in deficit when the combination of the account's
cash ledger balance, unrealized gain or loss on open futures
contracts, and the value of open option contracts liquidates to an
amount less than zero. The manual explicitly provides that ``[a]ny
securities used to margin the account are not included in
determining a customer's deficit.'' 1-FR-FCM Instructions Manual, p.
10-2. Accordingly, an FCM would exclude the value of any readily
marketable securities from the calculation of the customer's account
balance. The 1-FR-FCM Instructions Manual is available on the
Commission's website at: <a href="http://www.cftc.gov/sites/default/files/idc/groups/public/@iointermediaries/documents/file/1fr-fcminstructions.pdf">www.cftc.gov/sites/default/files/idc/groups/public/@iointermediaries/documents/file/1fr-fcminstructions.pdf</a>.
\110\ 17 CFR 1.32(b). Applying the calculation in regulation
Sec. 1.32 to Cleared Swaps, if a Cleared Swaps Customer Account was
comprised of cash of $300, securities of $200, and an unrealized
loss on open Cleared Swaps of $600, the account would have a net
equity debit balance of $300, as the value of the securities is not
included in the calculation ($300 cash less $600 in unrealized
losses, results in a $300 debit balance). The FCM may offset the
$300 debit balance by $170, which represents the value of the
readily marketable securities held in the account as collateral
($200 fair market value of the securities, less a $30 haircut). The
FCM is then required to include $130 in its segregation requirement,
which represents the amount of the unsecured debit balance remaining
in the customer's account (i.e., $300 debit balance, less $170 value
of the securities after haircuts).
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As noted above, the proposed amendments to regulation Sec.
22.2(f)(4) and (5) are intended to correct the description of the
segregation calculation and to make it consistent

[[Page 15323]]

with how FCMs calculate their total Cleared Swaps segregation
obligations under regulation Sec. 22.2(g), with how FCMs report their
total segregation requirements on the Cleared Swaps Segregation
Statement, and with the segregation calculation requirements for
futures accounts under regulation Sec. 1.32. Thus, the proposed
amendments are not expected to have any effect on FCMs.
In addition, the Commission is proposing to amend regulations
Sec. Sec. 1.20(i) and 30.7(f), which require an FCM carrying futures
accounts and 30.7 accounts, respectively, to calculate its total
segregation requirements in a manner that is consistent with current
regulation Sec. 22.2(f). As with the proposed amendment to regulation
Sec. 22.2(f), the proposed amendments to regulations Sec. Sec.
1.20(i) and 30.7(f) apply across FCMs that maintain futures customer
accounts or 30.7 customer accounts, respectively, whether or not such
FCMs maintain separate accounts. The Commission adopted current
regulations Sec. Sec. 1.20(i) and 30.7(f) in 2013. The final
regulations, however, did not include the provision set forth in
regulation Sec. 22.2(f)(5) requiring an FCM to include any secured
debit balances in its segregation requirement. This omission was
unintentional, as the Commission expressed its intent to ``mirror'' the
requirements of regulation Sec. 22.2(f) in regulation Sec. 1.20(i)
(and effectively regulation Sec. 30.7(f)).\111\
---------------------------------------------------------------------------

\111\ Enhancing Protections Afforded Customers and Customer
Funds Held by Futures Commission Merchants and Derivatives Clearing
Organizations, 78 FR 68506, 68543 (Nov. 14, 2013) (discussing the
Commission's intent to adopt regulation Sec. 1.20(i) consistent
with the corresponding requirements in regulation Sec. 22.2(f));
id. at 68576 (discussing the Commission's intent for the daily
segregation calculation for 30.7 accounts to be consistent with the
requirements for the daily segregation calculations for futures
customer funds in regulation Sec. 1.32).
---------------------------------------------------------------------------

To address the omission, the Commission is proposing to amend
regulations Sec. Sec. 1.20(i) and 30.7(f) to reflect the requirement
for an FCM to include in the calculation of its futures and foreign
futures segregation requirement any unsecured customer debit balances,
calculated consistent with the proposed amendments to regulation Sec.
22.2(f)(4) and (5) that are discussed above. The proposed amendments to
regulations Sec. Sec. 1.20(i) and 30.7(f) would accurately describe
and reflect the existing segregation calculations for futures, foreign
futures, and Cleared Swaps as originally intended. The proposed
amendments to regulations Sec. Sec. 1.20(i) and 30.7(f) are not
expected to have any impact on FCMs as the firms currently calculate
their segregation requirements by including customer unsecured debit
balances.

D. Proposed Regulation Sec. 1.44(a)

Proposed regulation Sec. 1.44 will represent a discrete set of
regulations, first directly requiring FCMs to avoid returning margin to
customers where doing so would create or exacerbate a margin deficiency
in the customer's account, but then allowing FCMs to provide for
separate account treatment within the Commission's broader regulatory
framework for FCMs. As such, proposed regulation Sec. 1.44 contains a
number of terms that are specific to proposed regulation Sec. 1.44,
but are not applicable, or are not applicable in the same manner, with
respect to other of the Commission's FCM regulations. The Commission
therefore proposes to add new regulation Sec. 1.44(a) to define
certain terms ``only for purposes of this section'' (i.e., proposed
regulation Sec. 1.44).
The Commission proposes to define ``account'' for purposes of
proposed regulation Sec. 1.44 as meaning a futures account, a Cleared
Swaps Customer Account (both of which are defined in regulation Sec.
1.3, which definitions apply broadly to all CFTC regulations) or a
Sec. 30.7 account (as defined in regulation Sec. 30.1). This
definition is intended to implement the proposed Margin Adequacy
Requirement and requirements for separate account treatment subject to
such Margin Adequacy Requirement, with respect to accounts of all three
types. This definition was not included in the First Proposal.
The Commission also proposes in proposed regulation Sec. 1.44(a)
to further define ``business day,'' as having the same meaning as set
forth in regulation Sec. 1.3, but with the clarification that
``holiday'' refers to Federal holidays as established by 5 U.S.C. 6103.
As noted above, this definition is similar to the definition of
``United States business day'' included in the First Proposal. In its
comment responding to the First Proposal, FIA noted that the term
``United States business day'' accounts for days that banks are open,
but may not encompass days when other markets, such as securities
markets, are closed, which could make it difficult to meet margin calls
by liquidating certain instruments.\112\ The Commission requests
further comment on this term, below.
---------------------------------------------------------------------------

\112\ FIA Comment Letter.
---------------------------------------------------------------------------

Relatedly, the Commission proposes to define ``one business day
margin call'' as a margin call that is issued and met in accordance
with the requirements of proposed regulation Sec. 1.44(f). The First
Proposal did not include this definition, although it contained
provisions that, similar to proposed regulation Sec. 1.44(f), further
explained when an FCM would be considered in compliance with a one
business day margin call. As noted above, this definition (along with
all of the definitions in proposed regulation Sec. 1.44(a)) applies
only for purposes of proposed regulation Sec. 1.44, thus, this
definition of ``one business day margin call'' is not intended to apply
in any other context.
Under proposed regulation Sec. 1.44, an FCM may engage in separate
account treatment only when it, and its customer, are operating within
the ``ordinary course of business,'' as that term is defined in the
proposed regulation. The Commission proposes to define ``ordinary
course of business'' as meaning the standard day-to-day operation of
the FCM's business relationship with its separate account customer, a
condition where there are no unusual circumstances that might indicate
a materially increased level of risk that the separate account customer
may fail promptly to perform its financial obligations to the FCM, or
decreased financial resilience on the part of the FCM. As noted in the
proposed definition, proposed regulation Sec. 1.44(e) sets out
circumstances that are inconsistent with the ordinary course of
business, and the occurrence of which would require a cessation of
separate account treatment. This definition of ``ordinary course of
business'' is unchanged from the First Proposal, except that it
replaces the term ``customer'' with the term ``separate account
customer.'' Comments received regarding the definition of ``ordinary
course of business'' are addressed in connection with proposed
regulation Sec. 1.44(e) below, which enumerates events that are
inconsistent with the ordinary course of business.
The Commission also proposes to define ``separate account'' as
meaning any one of multiple accounts of the same separate account
customer that are carried by the same FCM. The definition of this term
is the same as in the First Proposal, except that it replaces
``customer'' with ``separate account customer'' and excludes the
criteria that the FCM be a clearing member of a DCO. The Commission did
not receive comments on the definition of this term in the First
Proposal.
As noted above, the Commission proposes to define ``separate
account customer'' as meaning a customer for

[[Page 15324]]

which the FCM has elected to engage in separate account treatment. This
definition was not included in the First Proposal.
Lastly, the Commission proposes to define ``undermargined amount''
for an account as meaning the amount, if any, by which the customer
margin requirements with respect to all products held in that account,
exceeds the net liquidating value plus the margin deposits currently
remaining in that account.\113\ The definition notes that for purposes
of this definition, ``margin requirements'' shall mean the level of
maintenance margin or performance bond (including, as appropriate, the
equity component or premium for long or short option positions)
required for the positions in the account by the applicable exchanges
or clearing organizations.\114\ This clarification (which is drawn from
the definition of risk margin in regulation Sec. 1.17(b)(8)) is in
recognition of the difference between exchange (or clearing
organization) requirements for ``initial margin'' and ``maintenance
margin.'' However, here, in distinction to risk margin, the equity
component or premium for long or short option positions is included,
since those are part of the total required level of margin. ``Initial
margin'' is the amount of margin (otherwise known as ``performance
bond'' \115\ in this context) required to establish a position. Some
(though not all) contract markets and clearing houses establish
``maintenance margin'' requirements that are less than the
corresponding initial margin requirement.'' Where, due to adverse
market movements, the amount of margin on deposit is less than the
initial margin requirement, but greater than or equal to maintenance
margin, the FCM is not required to (though it may) call additional
margin from the customer. Once the amount of margin on deposit is less
than the maintenance margin required, the FCM must call the customer
for enough margin to meet the initial margin level.
---------------------------------------------------------------------------

\113\ The definition of ``undermargined amount'' in proposed
regulation Sec. 1.44(a) is different from, and simpler than, the
definitions of ``undermargined amount'' for the purpose of residual
interest calculations in regulations Sec. Sec. 1.22(c)(1),
22.2(f)(6)(i), and 30.7(f)(1)(ii). The calculations in the latter
cases are required to take into account information at the close of
business on day T-1 that will be used to calculate a residual
interest requirement on day T, as well as payments that may be
received on day T, and the elimination of double counting of debit
balances.
\114\ The definition of ``undermargined amount'' in proposed
regulation Sec. 1.44(a) further provides that, with respect to
positions for which maintenance margin is not specified, ``margin
requirements'' shall refer to the initial margin required for such
positions.
\115\ ``Performance bond'' secures the performance by a customer
to meet its variation margin payment obligations to its FCM (or the
performance of variation margin payment obligations of an FCM to the
clearinghouse, or to an intermediary upstream FCM).
---------------------------------------------------------------------------

The Commission uses this term in connection with proposed
regulation Sec. 1.44(f) in defining the requirements for making and
meeting a one business day margin call, as well as in regulation Sec.
1.44(g) in setting LSOC compliance calculations for separate accounts.
This definition was not included in the First Proposal.
Request for Comment
Question 4: How should the proposed definition of ``business day''
address days when securities and other markets are closed? For
instance, should the Commission address in the definition days when
such other markets are open, or create an exception for days when such
markets are closed on a prescheduled basis? (E.g., a requirement rolls
over to the next day that the market is open.) What liquidity
challenges or other risks would result from such an exception? How do
FCMs and customers currently address these cases?
Question 5: In the proposed definition of ``undermargined amount''
in proposed regulation Sec. 1.44(a), the term ``margin deposits
currently remaining'' does not include a deduction for ``haircuts'' on
non-cash collateral or collateral posted in alternate currencies. This
is consistent with the approach taken with respect to calculating
undermargined amounts for purposes of determining requirements for
residual interest in regulations Sec. Sec. 1.22(c)(1), 22.2(f)(6)(i),
and 30.7(f)(1)(ii). By contrast, in a number of cases, Commission
regulations require FCMs, in determining the amount of customer debit/
deficit balances secured by readily marketable securities, to apply
securities haircuts set forth in SEC Rule 15c3-1(c)(2).\116\ Similarly,
some exchanges require members, in determining the amount of margin
they are required to collect from their customers, to apply haircuts to
securities collateral in amounts consistent with SEC Rule 240.15c3-1,
and to apply haircuts to commodities in amounts consistent with the
inventory haircuts specified in Commission regulation Sec.
1.17(c)(5)(ii).\117\
---------------------------------------------------------------------------

\116\ See, e.g., regulations Sec. Sec. 1.32(b) and
22.2(f)(5)(iii).
\117\ See, e.g., CME Rule 930.C, ICE Futures U.S. Rule 5.03(j).
---------------------------------------------------------------------------

Should the definition of ``undermargined amount'' apply haircuts to
the value of customer collateral held by the FCM? If so, should the
amount of such haircuts be based on SEC rule 240.15c3-1 and Commission
regulation Sec. 1.17(c)(5)(ii), or some other basis?

E. Proposed Regulation Sec. 1.44(b)

As discussed above, the Commission proposes regulation Sec.
1.44(b) to apply directly to FCMs, whether clearing or non-clearing,
the same Margin Adequacy Requirement that DCOs are required to apply to
their clearing FCMs pursuant to regulation Sec. 39.13(g)(8)(iii).
Proposed regulation Sec. 1.44(b) provides that an FCM shall ensure
that a customer does not withdraw funds from its accounts with such FCM
unless the net liquidating value plus the margin deposits remaining in
the customer's account after such withdrawal are sufficient to meet the
customer initial margin requirements with respect to all products held
in such customer's account, except as provided in proposed regulation
Sec. 1.44(c), which allows for separate account treatment under
ordinary course of business conditions.\118\
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\118\ Consistent with the existing Margins Handbook, the Margin
Adequacy Requirement is based on initial margin requirements rather
than any lower maintenance margin requirement. See JAC Margins
Handbook at p. 10-1 (``Margin Funds Available for Disbursement = Net
Liquidating Value + Margin Deposits-Initial Margin Requirement
>=0''); see also supra n. 14 and accompanying text.
---------------------------------------------------------------------------

The Commission acknowledges that real-time calculation of margin
adequacy with respect to a potential withdrawal may prove
impracticable. Instead, the Commission seeks to articulate a standard
for the time as of which such calculation shall be made that is
consistent with the Commission's requirements for calculation of
undermargined amounts for purposes of an FCM's residual interest
calculations. Regulations Sec. Sec. 1.22(c)(2), 22.2(f)(6)(ii), and
30.7(f)(ii)(B) require each FCM to compute such undermargined amounts
based on the information available to the FCM as of the close of each
business day for futures customer accounts, Cleared Swaps Customer
Accounts, and 30.7 accounts, respectively. To ensure such consistency,
proposed regulation Sec. 1.44(b)(1) provides that the sufficiency of
the amount in a customer's account to meet customer initial margin
requirements following a potential withdrawal shall be calculated as of
close of business on the previous business day.
In order to address circumstances in which the previous day is a
holiday on which markets, but not banks, may be open, proposed
regulation Sec. 1.44(b)(2) further provides that, for purposes of

[[Page 15325]]

proposed regulation Sec. 1.44(b)(1)'s margin adequacy calculation
requirements, where the previous day (excluding Saturdays and Sundays)
is a holiday, as defined in proposed regulation Sec. 1.44(a), where
any DCM on which the FCM trades is open for trading, and where an
account of any of the FCM's customers includes positions traded on such
a market, the margin adequacy calculation shall instead be made as of
the close of business on such holiday.\119\
---------------------------------------------------------------------------

\119\ Proposed regulation Sec. 1.44(b)(2), and proposed
regulation Sec. 1.44(f)(7), discussed below, are consistent with
JAC Regulatory Alert 22-02, which provides that an FCM must issue
margin calls to customers on holidays where futures markets are open
and U.S. banks are closed. The margin calls are calculated based on
information as of the close of the previous business day (i.e., the
business day prior to the holiday) and the FCM does not count the
holiday for purposes of aging the margin call. JAC Regulatory Alert
22-01, Mar. 30, 2022, available at <a href="http://www.jacfutures.com">www.jacfutures.com</a>.
---------------------------------------------------------------------------

The Commission notes that proposed regulation Sec. 1.44(b)'s
requirements related to the timing of the margin adequacy calculation
required by the same section are intended to represent a minimum
standard, and are not intended to prevent an FCM from exercising its
judgment in connection with good risk management practice to prevent
the disbursement of customer funds based on intervening intraday market
movements resulting in losses to a customer account between the
calculation benchmark set forth in proposed regulation Sec. 1.44(b)
and the time at which a customer requests to withdraw funds. Ensuring
that customers do not withdraw funds from their accounts at FCMs if
such withdrawal would create or exacerbate an initial margin shortfall
is reasonably necessary from a risk management perspective, in that it
reduces the likelihood and extent of the risk that the FCM must cover
losses due to a default by the customer on obligations that exceed the
margin actually held by the FCM. Similarly, because customer funds are
held by an FCM in omnibus accounts, this prohibition will reduce the
likelihood and extent of the risk that the FCM will effectively use the
margin of other customers to ``margin or guarantee the trades or
contracts, or to secure or extend the credit of'' a customer that was
permitted to withdraw margin in a manner that created or exacerbated an
undermargined condition,\120\ whether the duty to prevent such
withdrawals falls on DCOs acting on their member FCMs, or directly on
FCMs. Because regulation Sec. 39.13(g)(8)(iii) applies only to DCOs
(which in turn can only apply regulation Sec. 39.13(g)(8)(iii)'s
Margin Adequacy Requirement to their clearing member FCMs), and given
the strong trend of the comments in favor of addressing these issues in
a manner uniform among all types of FCMs directly in part 1 rather than
indirectly through part 39, the Commission now views it as reasonably
necessary to extend to all FCMs the requirement to prevent such under-
margining scenarios.
---------------------------------------------------------------------------

\120\ Cf. CEA 4d(a)(2), 7 U.S.C. 6d(a)(2) (an FCM may not use
the money or property of one customer ``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.'')
---------------------------------------------------------------------------

Accordingly, the Commission preliminarily believes that proposed
regulation Sec. 1.44(b), which will apply a similar Margin Adequacy
Requirement directly to FCMs, both clearing and non-clearing, would
further serve to protect customer funds and mitigate systemic risk,
thus effectuating CEA section 4d(a)(2), 4d(f)(2), and 4(b)(2)(A) \121\
and accomplishing the purposes of ``avoidance of systemic risk'' and
``protecting all market participants from . . . misuses of customer
assets.'' \122\
---------------------------------------------------------------------------

\121\ 7 U.S.C. 6d(a)(2), 6d(f)(2), and 6(b)(2)(A).
\122\ CEA 3(b), 7 U.S.C. 5(b). See, as discussed above, section
8a(5) of the CEA, 7 U.S.C. 12a(5), authorizing the Commission to
make and promulgate such rules and regulation as in the Commission's
judgment are reasonably necessary to effectuate any of the
provisions, or to accomplish any of the purposes, of the CEA.
---------------------------------------------------------------------------

F. Proposed Regulation Sec. 1.44(c)

Proposed regulation Sec. 1.44(c) sets forth the fundamental terms
and conditions for separate account treatment. As a general matter,
those terms and conditions are substantially the same as in CFTC Letter
No. 19-17, and in the First Proposal, except that the FCM may choose to
engage in separate account treatment without a DCO specifically
authorizing such treatment. Proposed regulation Sec. 1.44(c) provides
that an FCM may, only during the ordinary course of business, as that
term is defined in proposed regulation Sec. 1.44, treat the separate
accounts of a separate account customer as accounts of separate
entities for purposes of proposed regulation Sec. 1.44(b),\123\ if
such FCM elects to do so as specified in proposed regulation Sec.
1.44(d). Proposed regulation Sec. 1.44(c) further provides that an FCM
that has made such an election shall comply with the risk-mitigating
conditions set forth further in proposed regulation Sec. 1.44 and
maintain written internal controls and procedures designed to ensure
such compliance.
---------------------------------------------------------------------------

\123\ As noted above, proposed regulation Sec. 1.44(b) is
intended to serve as an analog to regulation Sec. 39.13(g)(8)(iii)
for FCMs.
---------------------------------------------------------------------------

The Commission preliminarily believes that permitting FCMs to treat
the separate accounts of separate account customers as accounts of
separate entities for purposes of proposed regulation Sec. 1.44(b),
subject to the risk-mitigating conditions set forth further in proposed
regulation Sec. 1.44, accomplishes the CEA's purpose of promoting
responsible innovation, while also maintaining continuity of robust
customer fund protection and risk mitigation.\124\ Compliance with
those conditions can best be achieved if the FCM maintains written
internal controls and procedures designed to ensure such compliance.
---------------------------------------------------------------------------

\124\ See CEA 3(b), 8a(5).
---------------------------------------------------------------------------

G. Proposed Regulation Sec. 1.44(d)

Proposed regulation Sec. 1.44(d) provides that an FCM may elect to
treat the separate accounts of a customer as accounts of separate
entities for purposes of proposed regulation Sec. 1.44(b). In order to
do so, an FCM shall include the customer on a list of separate account
customers maintained in its books and records. Such list shall include
the identity of each separate account customer, as well as the identity
of each separate account of such customer. The FCM is required to keep
such list current. Furthermore, the first time that an FCM chooses to
include a customer on a list of separate account customers, the FCM is
required to provide notification of the election to allow separate
account treatment for customers in accordance with the process
specified in regulation Sec. 1.12(n)(3).\125\ For the avoidance of
doubt, the notification of such election would remain a one-time
notification made the first time the FCM begins providing separate
account notification for a customer. Successive notifications would not
be required for each additional customer for which the FCM provides
separate account treatment. Furthermore, the FCM would need only
provide notification of the election, and would not be required to
include the identity of the separate account customer. Proposed
regulation Sec. 1.44(d) is intended to ensure that DSROs are able
effectively to monitor and regulate FCMs that engage in separate
account treatment, and that FCMs have the records necessary to
understand which accounts receive separate account treatment for
purposes of monitoring

[[Page 15326]]

compliance with the proposed regulation.
---------------------------------------------------------------------------

\125\ See 17 CFR 1.12(n)(3). Once an FCM provides notice in the
first instance that it will apply separate account treatment to one
or more customers, it would not be required to provide the same
notification each time it applies separate account treatment to a
new or additional customer.
---------------------------------------------------------------------------

The First Proposal proposed to require a clearing FCM to (i)
provide a one-time notification to its DSRO and any DCO of which it is
a clearing member that it will apply such treatment; (ii) maintain and
keep current a list of all separate accounts receiving such treatment;
and (iii) conduct a review of such records of accounts receiving
separate treatment no less than quarterly.
With respect to the proposed one-time notice requirement for
separate account treatment, the JAC in its comment contended that such
notice (and other notices required under the First Proposal) should be
made to any DCO permitting separate account treatment of which a
clearing FCM is a member, but should not be required to be provided to
the clearing FCM's DSRO, as monitoring for compliance with separate
account treatment requirements would not fall under the oversight of
the DSRO.\126\ Because the Commission is no longer proposing to codify
the no-action position in CFTC Letter No. 19-17 in part 39, it is no
longer proposing to require that notifications made to DSROs
additionally be made to every DCO of which the notifying FCM is a
member. Furthermore, the Commission believes notice to the Commission,
and to DSROs (who review FCMs' compliance with the Commission's part 1
regulations) pursuant to proposed regulation Sec. 1.44(d)(2) is
proper.
---------------------------------------------------------------------------

\126\ JAC Comment Letter.
---------------------------------------------------------------------------

With respect to the proposed recordkeeping requirement, CME opined
in its comment that clearing FCMs should be required to be able to
produce, upon request of the relevant DCO or the Commission, a current
list of accounts receiving separate treatment.\127\ The Commission
believes such requirement is already provided for by the requirement in
proposed regulation Sec. 1.44(d) to maintain and keep current such a
list, combined with Commission regulation Sec. 1.31(d)'s requirement
for records entities to produce regulatory records promptly upon
request by Commission representatives.
---------------------------------------------------------------------------

\127\ CME Comment Letter.
---------------------------------------------------------------------------

The Commission notes that, in proposing the recordkeeping
requirement in this Second Proposal, it has determined not to include
the First Proposal's proposed requirement that an FCM review records of
accounts receiving separate treatment no less than quarterly, as the
Commission views the objective of such requirement--the keeping of
accurate and current records--as being subsumed by this Second
Proposal's proposed requirement to maintain and keep current a list of
accounts receiving separate treatment.

H. Proposed Regulation Sec. 1.44(e)

Proposed regulation Sec. 1.44(e) enumerates events that would be
inconsistent with the ordinary course of business, as that term is
defined in proposed regulation Sec. 1.44(a), and sets forth
requirements related to the cessation and resumption of permitting
disbursements on a separate account basis upon, respectively, the
occurrence and cure of certain non-ordinary course of business events.
Each of these events would raise important concerns about the financial
resiliency of the FCM or one or more of its separate account
customers.\128\
---------------------------------------------------------------------------

\128\ For example, while the bankruptcy of an FCM or a separate
account customer would have direct effects, the bankruptcy of an FCM
or separate account customer's parent company would also portend
financial challenges for, respectively, the FCM or separate account
customer (e.g., if the parent company decided to liquidate its
subsidiaries in bankruptcy). Experience in the bankruptcies of,
e.g., Refco and Lehman, demonstrates that when one member of an
affiliate financial company structure files for bankruptcy, other
affiliates soon follow.
---------------------------------------------------------------------------

These events are divided into two categories: (i) those that
concern the separate accounts of a particular separate account
customer, and the occurrence of any one of which would require the FCM
to cease permitting disbursements on a separate account basis with
respect to all accounts of that customer; and (ii) those that concern
the financial status of the FCM itself, and the occurrence of any one
of which would require the FCM to cease permitting disbursements on a
separate account basis with respect to all of its separate account
customers.
It is important to note, however, that under this proposal, while a
separate account customer is outside the ordinary course of business as
defined in proposed regulation Sec. 1.44(a), it is only the privilege
of permitting disbursements on a separate account basis, pursuant to
proposed regulation Sec. 1.44(c), with respect to that customer and
that customer's separate accounts, that is terminated (or suspended).
So long as a customer remains a separate account customer, whether or
not within the ordinary course of business, then the FCM is required to
comply with the requirements in proposed regulation Sec. Sec. 1.44(g)
and (h), including with respect to the relevant provisions addressed in
regulations Sec. Sec. 1.17, 1.20, 1.22, 1.23, 1.32, 1.55, 1.58, 1.73,
22.2, 30.7, and 39.13(g)(8)(i) with respect to that customer and all of
that customer's separate accounts. Similarly, if it is the FCM that is
outside the ordinary course of business, it is only the privilege of
permitting disbursements on a separate account basis with respect to
any of the FCM's separate account customers and their separate accounts
that is terminated (or suspended). The FCM continues to be required to
comply with the requirements in regulation Sec. Sec. 1.44(g) and (h),
including with respect to the relevant provisions described above, with
respect to all of its separate account customers and their separate
accounts.
The first category of events is as follows:
<bullet> (1)(i) The separate account customer, including any
separate account of such customer, fails to deposit initial margin or
maintain maintenance margin or make payment of variation margin or
option premium as specified in proposed regulation Sec. 1.44(f).\129\
---------------------------------------------------------------------------

\129\ I.e., the one business day margin call requirement.
---------------------------------------------------------------------------

<bullet> (ii) The occurrence and declaration by the FCM of an event
of default as defined in the account documentation executed between the
FCM and the separate account customer.
<bullet> (iii) A good faith determination by the FCM's CCO, one of
its senior risk managers, or other senior manager, following such FCM's
own internal escalation procedures, that the separate account customer
is in financial distress, or there is significant and bona fide risk
that the separate account customer will be unable promptly to perform
its financial obligations to the FCM, whether due to operational
reasons or otherwise.
<bullet> (iv) The insolvency or bankruptcy of the separate account
customer or a parent company of such customer.
<bullet> (v) The FCM receives notification that a board of trade, a
DCO, a self-regulatory organization (SRO) as defined in regulation
Sec. 1.3 or section 3(a)(26) of the Securities Exchange Act of 1934,
the Commission, or another regulator \130\ with jurisdiction over the
separate account customer, has initiated an action \131\ with respect
to such customer based on an allegation that the customer is in
financial distress.
---------------------------------------------------------------------------

\130\ E.g., the SEC or a foreign regulator.
\131\ In this context, the term ``initiate an action'' is
intended to include the filing of a complaint or a petition to take
action against an entity, or an analogous process. The initiation or
conduct of an investigation would not be sufficient to constitute
``initiating an action'' in this context.
---------------------------------------------------------------------------

<bullet> (vi) The FCM is directed to cease permitting disbursements
on a separate account basis, with respect to the

[[Page 15327]]

separate account customer, by a board of trade, a DCO, an SRO, the
Commission, or another regulator with jurisdiction over the FCM,
pursuant to, as applicable, board of trade, DCO, or SRO rules,
government regulations, or law.
The second set of events is as follows:
<bullet> (2)(i) The FCM is notified by a board of trade, a DCO, an
SRO, the Commission, or another regulator with jurisdiction over the
FCM, that the board of trade, the DCO, the SRO, the Commission, or
other regulator, as applicable, believes the FCM is in financial or
other distress.
<bullet> (ii) The FCM is under financial or other distress as
determined in good faith by its CCO, senior risk managers, or other
senior management.
<bullet> (iii) The insolvency or bankruptcy of the FCM or a parent
company of the FCM.
Proposed regulation Sec. 1.44(e)(3) provides that the FCM must
provide notice to its DSRO and to the Commission of the occurrence of
any of the events suspending or terminating separate account treatment
for one or more separate account customers. The notice must be provided
to the DSRO and the Commission in accordance with the process specified
in regulation Sec. 1.12(n)(3). The notice also must identify the event
and, if applicable, the customer. The FCM would be required to provide
such notice promptly in writing no later than the next business day
following the date on which the FCM identifies or has been informed
that the relevant event has occurred. The notification required upon
exiting the ordinary course of business is intended to ensure that the
Commission and DSROs will be apprised of the occurrence of non-ordinary
course of business events, and will actively communicate with and
monitor an FCM with respect to the resolution of such events (i.e.,
where an FCM attempts to reenter ordinary course of business
conditions).
Proposed regulation Sec. 1.44(e)(4) provides an avenue for an FCM
that has experienced a non-ordinary course of business event with
respect to itself or a customer to return to the ordinary course of
business and resume separate account treatment for itself or its
customers, as may be the case. Proposed regulation Sec. 1.44(e)(4)
provides that an FCM that has ceased permitting disbursements on a
separate account basis to a separate account customer due to the
occurrence of a non-ordinary course of business event, with respect to
that specific separate account customer, or with respect to all such
customers, may resume permitting disbursements to such customer(s) on a
separate account basis if such FCM reasonably believes, based on new
information, that those circumstances triggering the event have been
cured, and such FCM documents in writing the factual basis and
rationale for its conclusion. However, proposed regulation Sec.
1.44(e)(4) also provides that, if the circumstances triggering
cessation of separate account treatment were an action or direction by
a board of trade, a DCO, an SRO, the Commission, or another regulator
with jurisdiction over the separate account customer or the FCM, then
cure of those circumstances would require the withdrawal or other
appropriate termination of such action or direction by that entity.
That permitting disbursements on a separate account basis should be
discontinued (or at least suspended) under certain circumstances is
reflected in CME's recommendation, preceding issuance of CFTC Letter
No. 19-17, that separate account treatment be permitted only during the
ordinary course of business. As CME explained, FCMs should maintain the
flexibility to determine that either the customer or the FCM itself is
in distress and ``pause'' disbursements until the customer's other
account can demonstrably meet the call to deposit funds.\132\
Similarly, as CME noted, an FCM should not be purposely releasing funds
to a customer when the customer's overall account is in deficit, as
doing so may create a shortfall in segregated, secured, or Cleared
Swaps Accounts in the event the FCM becomes insolvent.\133\ However,
the Commission acknowledges that in some instances, an FCM or customer
may exit a state of financial, operational, or other distress, such
that resumption of separate account treatment would be appropriate. By
explicitly providing FCMs with an avenue to resume separate account
treatment consistent with the resumption of the ordinary course of
business, the Commission seeks to incentivize transparency between FCMs
and their DSROs and Commission staff with respect to conditions at the
FCMs or customers that could indicate operational or financial distress
and, more generally, the risk management program at the FCM.
---------------------------------------------------------------------------

\132\ CME Letter.
\133\ Id.
---------------------------------------------------------------------------

Proposed regulation Sec. 1.44(e) is designed to ensure that
disbursements are permitted on a separate account basis only during the
routine operation of the FCM's business relationship with its customer.
Certain events signaling financial or operational distress of the FCM
or customer are inconsistent with the normal operation of the business
relationship between the FCM and its customer. The Commission believes
that, when such events occur, and throughout the duration of their
occurrence, suspending FCMs' ability to provide for separate account
treatment with respect to the Margin Adequacy Requirement is reasonably
necessary to accomplish the goals of protecting customer funds and
mitigating systemic risk.
The list of non-ordinary course of business events proposed herein,
as well as the criteria and process for an FCM to resume separate
account treatment, remains the same as proposed in the First Proposal,
except that the Commission has changed certain aspects of the proposed
regulation to account for placement of the requirement in part 1 (and
thus applicability to all FCMs, including non-clearing FCMs), and
notification of non-ordinary course of business events to the
Commission and to the FCM's DSRO through the process specified by
regulation Sec. 1.12(n)(3) (i.e., deleting the First Proposal's
separate requirement for a clearing FCM to provide notice to any DCO of
which it is a member that it has experienced a non-ordinary course of
business event (in addition to its DSRO, as provided for in CFTC Letter
No. 19-17), and deleting the requirement for a clearing FCM to provide
separate notice to its DSRO and any DCO of which it is a member that it
will resume separate account treatment).
In its comment responding to the First Proposal, CME recommended
that the Commission add certain additional events to the list of non-
ordinary course of business events: (1) when an FCM is under-
capitalized; (2) when an FCM is not in compliance with segregated,
secured, or Cleared Swaps requirements; (3) when an FCM has filed
notice of non-current books and records; and (4) when an FCM has filed
notice of a material inadequacy in internal controls that impact its
ability to remain in compliance with Commission regulations.\134\ The
JAC similarly recommended adding as non-ordinary course of business
event (1) when an FCM does not maintain required CFTC capital, futures
customer funds, 30.7 customer funds, Cleared Swaps Customer Collateral,
residual interest compliance or LSOC compliance, or does not comply
with the First Proposal's financial computation requirements; and (2)
when the FCM does not maintain current books and records or has a

[[Page 15328]]

material inadequacy in internal controls.\135\ The foregoing events are
generally matters for which an FCM must already make a report to, inter
alia, the Commission and the DSRO pursuant to regulation Sec.
1.12.\136\
---------------------------------------------------------------------------

\134\ CME Comment Letter.
\135\ JAC Comment Letter.
\136\ See, e.g., regulation Sec. 1.12, which requires an FCM to
provide written notice to the Commission and to the firm's DSRO if
the FCM is undercapitalized (regulation Sec. 1.12(a)); maintains a
level of adjusted net capital that is below established ``early
warning levels'' (regulation Sec. 1.12(b)); fails to maintain
current books and records (regulation Sec. 1.12(c)); discovers or
is notified by an independent public accountant of the existence of
any material inadequacy in the firm's accounting system, the
internal accounting controls, or the procedures for safeguarding
customer and firm assets (regulation Sec. 1.12(d)); is
undersegregated with respect to futures customer funds, Cleared
Swaps Customer Collateral, or 30.7 customer funds (regulation Sec.
1.12(h)); or does not hold sufficient funds in segregated accounts
to meet targeted residual interest amounts or maintains an amount of
residual interest that is less than the sum of the undermargined
amounts in customer accounts (regulation Sec. 1.12(j)).
---------------------------------------------------------------------------

CME additionally opined that the Commission should make clear that
any FCM undergoing an event that in the FCM's opinion is inconsistent
with the ordinary course of business should be considered outside the
ordinary course of business until such event is resolved, and clarify
that the list of non-ordinary course of business events is not
exhaustive and is subject to the discretion of the FCM in accordance
with its risk management practices.\137\
---------------------------------------------------------------------------

\137\ CME Comment Letter.
---------------------------------------------------------------------------

In this Second Proposal, the Commission has determined not to
adjust the list of non-ordinary course of business events, or add
additional conditions to exiting or resuming separate account
treatment, because the Commission believes the list of non-ordinary
course of business events proposed herein is sufficiently flexible to
capture CME and JAC's recommended additional non-ordinary course of
business events, and is therefore not exhaustive.\138\ In addition, the
FCM's DSRO will generally have received notification of the occurrence
of these events consistent with the requirements of regulation Sec.
1.12, and could, if it deems necessary, take action that would result
in the suspension of separate account treatment pursuant to proposed
regulation Sec. 1.44(e)(1)(vi) or (e)(2)(i).
---------------------------------------------------------------------------

\138\ E.g., proposed regulation Sec. 1.44(e)(1)(iii) (A good
faith determination by the FCM's CCO, one of its senior risk
managers, or other senior manager, following such FCM's own internal
escalation procedures, that the separate account customer is in
financial distress, or there is significant and bona fide risk that
the separate account customer will be unable promptly to perform its
financial obligations to the FCM, whether due to operational reasons
or otherwise.) could encompass a wide variety of conditions that
could result in a cessation of separate account treatment.
---------------------------------------------------------------------------

FIA opposed the further definition of ``ordinary course of
business'' through enumerated events, arguing that as long as a
customer timely meets margin requirements and is not subject to
bankruptcy, an FCM should be permitted to allow separate account
treatment.\139\ The Commission notes that, while there may be
commercial and operational merits to FIA's more flexible proposed
approach, a number of non-ordinary course of business events are
anticipatory--intended to result in cessation of separate account
treatment when the customer is in distress, but before such customer
reaches the point of bankruptcy or not being able to post margin. FIA's
comment also does not consider non-ordinary course of business events
occurring at the FCM, rather than just at the customer.
---------------------------------------------------------------------------

\139\ FIA Comment Letter.
---------------------------------------------------------------------------

FIA additionally asserted that requirements in the First Proposal
for DCOs permitting separate account treatment to require their
clearing FCMs to communicate to their DSRO and any DCO of which they
are a member (i) the occurrence of non-ordinary course of business
events and (ii) the resumption of a state of ordinary course of
business, would create a new filing requirement without any perceived
benefit and incorrectly imply that separate accounts and their
customers pose particular risk management challenges.\140\ The
Commission notes that, as a condition of the staff no-action position
provided in CFTC Letter No. 19-17, a DCO permitting separate account
treatment needed to require a clearing FCM to report to its DSRO the
occurrence of a non-ordinary course of business event. The First
Proposal's proposed requirement to include any DCO of which a clearing
FCM is a member as an additional recipient for reports required of the
FCM, would no longer apply under this proposal.
---------------------------------------------------------------------------

\140\ Id.
---------------------------------------------------------------------------

The JAC in its comment argued that an FCM exiting or reentering the
ordinary course of business (as well as starting separate account
treatment) should not be required to notify its DSRO of that fact on
grounds that monitoring for compliance with the proposed separate
account treatment does not fall under the oversight responsibilities of
an SRO, DSRO, or the JAC, and that it would not make sense for a DCO to
implement rules that would require a clearing FCM to notify its DSRO of
activity specifically governed by the DCO's rules.\141\ Under this
Second Proposal, however, separate account treatment will be governed
by the Commission's part 1 regulations, and thus would fall within
oversight responsibilities of an SRO or DSRO, or the oversight program
maintained by the JAC.
---------------------------------------------------------------------------

\141\ JAC Comment Letter.
---------------------------------------------------------------------------

The Commission further notes that, under this Second Proposal, the
notice requirements for FCMs (to provide notice to the Commission and
DSRO of the occurrence of a non-ordinary course of business event via
the process set forth in regulation Sec. 1.12(n)(3)) are substantially
similar to their counterparts in CFTC Letter No. 19-17 (requiring
notice of a non-ordinary course of business event to a DSRO, although
not expressly to the Commission), and that the Commission is not now
proposing a separate requirement for notice to DCOs of exit from and
reentry into separate account treatment (or of initiation of separate
account treatment).
In its comment, SIFMA-AMG asserted that the Commission's proposed
definition of ``ordinary course of business'' did not provide clarity
on the meaning of ``standard day-to-day operation,'' noting that DCOs
instead would be required to continuously monitor for a series of
events.\142\ SIFMA-AMG also asserted that some non-ordinary course of
business events do not appear to rise to the level of significance to
suggest they are not ordinary course of business, such as the failure
of a customer to make a maintenance margin payment, and that other
events require discretion and subjective analysis.\143\ SIFMA-AMG
recommended the Commission redefine the term ``ordinary course of
business'' and clearly delineate events such as default or bankruptcy
that are limited instances that would not be considered ordinary course
of business. SIFMA-AMG did not propose an alternative

[[Page 15329]]

definition of ``ordinary course of business.''
---------------------------------------------------------------------------

\142\ SIFMA-AMG Comment Letter. With respect to continuous
monitoring, there are six events (proposed regulation Sec.
1.44(e)(1)(i) through (vi)) that are ``inconsistent with the
ordinary course of business with respect to the separate accounts of
a particular separate account customer.'' The first three of these
include a payment default and determinations by the FCM or its
employees, all of which should otherwise be monitored by an FCM as
part of its normal risk management. The last two involve cases where
the FCM either ``receives notification'' or ``is directed,'' neither
of which requires monitoring by the FCM. By proposed regulation
Sec. 1.44(e)(1)(iv), the FCM is required to monitor whether a
separate account customer has become ``insolvent or bankrupt''--
conditions that SIFMA-AMG agrees are outside the ordinary course of
business. Monitoring for the insolvency or bankruptcy of a client
would also appear to be a basic part of an FCM's credit risk
management, regardless of separate account treatment.
\143\ Id.
---------------------------------------------------------------------------

As discussed above, the Commission notes that a number of non-
ordinary course of business events are anticipatory, and thus are
intended to result in cessation of separate account treatment before a
customer or FCM reaches the point of default or bankruptcy. Proposed
regulation Sec. 1.44(e) is intended to provide concrete criteria for
when a customer or FCM is operating outside the Commission's definition
of ``ordinary course of business'' in proposed regulation Sec. 1.44(a)
that are sufficiently flexible to account for the myriad ways in which
a customer or FCM can enter a state of financial or operational
distress, such that providing for separate account treatment would no
longer be prudent from a risk management perspective.

I. Proposed Regulation Sec. 1.44(f)

Proposed regulation Sec. 1.44(f) requires that each separate
account must be on a one business day margin call, subject to certain
requirements designed to further define what constitutes a one business
day margin call. Providing for a one business day margin call, as
defined in this regulation Sec. 1.44(f), ensures that margin
shortfalls are timely corrected, and that a customer's inability to
meet a margin call is timely identified. However, in certain
circumstances, it may be impracticable for payments to be received on a
same-day basis due to the mechanics of international payment systems
(e.g., time zones and schedules of correspondent banks). In proposing
requirements to define timely payment of margin for purposes of the
standard set forth in proposed regulation Sec. 1.44(f), the
Commission's goal is to establish requirements that reflect industry
best practices among FCMs and customers.\144\
---------------------------------------------------------------------------

\144\ An analysis by FIA indicated that, for the FCMs studied,
on average more than 90% of margin deficits were collected by the
close of business on the day following the market movements creating
such deficits. For a majority of the FCMs studied, 95% of margin
deficits were collected by that time. See Letter from Barbara
Wierzinski, General Counsel, FIA, to Melissa Jurgens, Secretary,
CFTC, Costs of the Proposed Residual Interest Requirement Compared
to the FIA Alternative, at 3, available at <a href="https://comments.cftc.gov/PublicComments/ViewComment.aspx?id=59283&SearchText=FIA">https://comments.cftc.gov/PublicComments/ViewComment.aspx?id=59283&SearchText=FIA</a>.
---------------------------------------------------------------------------

Specifically, the Commission understands that, while margin calls
made in the morning in the U.S. Eastern Time Zone (ET) are typically
capable of being met on a same-day basis when margin is paid in United
States dollars (USD) and Canadian dollars (CAD), the operation of time
zones and banking conventions in other jurisdictions may necessitate
additional time when margin is paid in other currencies. For example,
the Commission understands, based on discussions with market
participants, that margin paid in Japanese yen (JPY) and certain other
currencies is typically received two business days after a margin call
is issued, and margin paid in British pounds (GBP), euros (EUR), and
certain other non-USD/CAD/JPY currencies is typically received one
business day after a margin call is issued.
Proposed regulation Sec. 1.44(f)(1) provides that, except as
explicitly provided in proposed regulation Sec. 1.44(f), if, as a
result of market movements or position changes on the previous business
day, a separate account is undermargined (i.e., the undermargined
amount for the account is greater than zero), the FCM shall issue a
margin call for that separate account for at least the amount necessary
for the separate account to meet the initial margin required by the
applicable exchanges or clearing organizations (including, as
appropriate, the equity component or premium for long or short option
positions) for the positions in the separate account.\145\ Such call
must be met by the applicable separate account customer no later than
the close of the Fedwire Funds Service on the same business day,
consistent with the industry standard for when 90-95% of margin
deficits are cured.\146\
---------------------------------------------------------------------------

\145\ The undermargined amount is based on maintenance margin,
which may be lower than initial margin. However, if an account falls
below the maintenance margin level, the amount of the margin call is
generally required to be the amount necessary to bring the account
back to the (potentially higher) initial margin level.
\146\ The Fedwire Funds Service is an electronic funds transfer
service commonly used for settlement and clearing arrangements. The
service currently closes at 7:00 p.m. ET. For purposes of the
Fedwire Funds Service, Federal Reserve Banks observe as holidays all
Saturdays, all Sundays, and the holidays listed on the Federal
Reserve Banks' Holiday Schedules. See The Federal Reserve,
Fedwire[supreg] Funds Service and National Settlement Service
Operating Hours and FedPayments[supreg] Manager Hours of
Availability, available at <a href="https://www.frbservices.org/resources/financial-services/wires/operating-hours.html">https://www.frbservices.org/resources/financial-services/wires/operating-hours.html</a>. Because the Fedwire
Funds Service hours of operations may be subject to change, the
Commission has determined to tie the timeframe to fulfill the one
business day margin call requirements of proposed regulation Sec.
1.44(f) to the Fedwire Funds Service's closing rather than an
absolute time.
---------------------------------------------------------------------------

In light of challenges to same-day settlement posed by margining in
certain currencies, as described above, and in recognition of the
particular banking conventions around payments in other currencies,
proposed regulation Sec. 1.44(f)(2) provides that payment of margin in
certain currencies listed in proposed Appendix A to part 1 shall be
considered in compliance with the requirements of proposed regulation
Sec. 1.44(f) provided they are received by the applicable FCM no later
than the end of the second business day after the day on which the
margin call is issued.
Furthermore, proposed regulation Sec. 1.44(f)(3) provides that
payment of margin in fiat currencies other than USD, CAD, or currencies
listed in proposed Appendix A to part 1 shall be considered in
compliance with the requirements of proposed regulation Sec. 1.44(f)
if received by the applicable FCM no later than the end of the business
day after the business day on which the margin call was issued.
In the First Proposal, the Commission proposed that:
<bullet> Subject to certain exceptions, if the margin call is
issued by 11:00 a.m. ET on a United States business day (as that term
was proposed to be defined), it must be met by the applicable customer
no later than the close of the Fedwire Funds Service on the same United
States business day. In no case can a clearing member contractually
agree to delay issuing such a margin call until after 11:00 a.m. ET on
any given United States business day or to otherwise engage in
practices that are intended to circumvent the one business day margin
call standard by causing such delay.
<bullet> Payment of margin in JPY shall be considered in compliance
with the requirements of the one business day margin call standard if
received by the applicable clearing member by 12:00 p.m., ET, on the
second United States business day after the business day on which the
margin call is issued.\147\
---------------------------------------------------------------------------

\147\ In the First Proposal, the Commission requested comment on
whether there are other currencies besides JPY where the relevant
banking conventions render payment before the second U.S. business
day after a margin call is issued impracticable; to specifically
identify any such currencies; and to provide specifics about the
operational issues involved with respect to each such currency.
---------------------------------------------------------------------------

<bullet> Payment of margin in fiat currencies other than USD, CAD,
or JPY shall be considered in compliance with the requirements of the
one business day margin call standard if received by the applicable
clearing member by 12:00 p.m., ET, on the United States business day
after the business day on which the margin call is issued.
With respect to the timing of margin payments, CME, in its comment
in response to the First Proposal, opined that the Commission should
encourage FCMs to collect margin in all currencies as quickly as
feasible.\148\ While the

[[Page 15330]]

Commission does encourage FCMs to collect margin in all currencies as
quickly as feasible, the Commission understands that compliance
challenges could arise with respect to FCMs attempting to determine
whether they are meeting an ``as quickly as feasible'' standard, and
chooses to maintain the more definite standard set forth in this
proposed regulation, subject to certain revisions with respect to the
specific margin payment timing requirements as discussed below.
---------------------------------------------------------------------------

\148\ CME Comment Letter. In addition, the Commission requested
comment on whether, in anticipation of potential developments with
respect to the use of central bank digital currencies or other
digital assets, the proposed regulation should explicitly address
the timing of payment of margin in digital assets. CME, the only
commenter to respond to this question, opined that this question
should be addressed in a separate request for comment. Id. The
Commission is not proposing to address the timing of margin payments
in digital assets in the present proposal, other than to note that,
under regulation Sec. 1.44(f) as currently proposed, payments of
margin in digital assets that are not fiat currencies (i.e., are not
created by a government), and are not listed in proposed Appendix A
to part 1, would be due on a same-day basis. To the extent that the
future development and use of digital fiat currencies results in a
situation where general practice is to settle payments in such
currencies on a same-day basis, the Commission would address this in
a subsequent rulemaking.
---------------------------------------------------------------------------

CME also opined that the Commission should treat all currencies
equally where relevant banking conventions render payment impracticable
before the second U.S. business day after a margin call is made (i.e.,
such provision should not pertain solely to JPY).\149\
---------------------------------------------------------------------------

\149\ Id.
---------------------------------------------------------------------------

In this Second Proposal, the Commission again requests comment
regarding the inclusion of currencies with respect to proposed Appendix
A to part 1 (i.e., currencies for which payment of margin may be
impracticable before the second business day after a margin call is
made) and proposes a process for the addition or removal of currencies
with respect to proposed Appendix A to part 1 on a going-forward basis.
FIA commented that the one business day margin call requirements in
the First Proposal were at once too broad with exceptions that were too
narrow.\150\ FIA asserted that while neither the CEA nor Commission
regulations specify when an FCM must make a margin call, all customer
accounts are subject to a one business day margin call under certain
CME and ICE Futures U.S. rules as well as the JAC Margins
Handbook.\151\ FIA further noted that while neither the CEA nor
Commission regulations specify when a margin call must be met, the JAC
Margins Handbook provides that margin calls must be met within a
``reasonable time,'' defined as ``less than five business days for
customers and less than four business days for noncustomers and omnibus
accounts . . . counted from and includ[ing] the day the account became
undermargined,'' and CME rules provide that a clearing member may deem
a ``reasonable time'' to mean one hour.\152\
---------------------------------------------------------------------------

\150\ FIA Comment Letter. SIFMA-AMG voiced similar concerns,
arguing that the Commission's proposal was overly prescriptive and
did not consider legitimate reasons for why firms may have different
margin call deadlines.
\151\ Id.
\152\ Id.
---------------------------------------------------------------------------

FIA also asserted that Commission regulations (e.g., regulations
Sec. Sec. 1.22(c) and 1.17(c)(5)(viii)) already provide a strong
incentive to ensure margin calls are met no later than the following
(or, at the latest, second) business day after the event giving rise to
the margin call, and that FCMs generally do make margin calls within
one business day.\153\ Additionally, FIA argued that the proposed
regulation would impose a new recordkeeping requirement because FCMs
would have to record the precise time a margin call is issued and,
likely, met.\154\ FIA recommended that instead the Commission should
instead provide that FCM policies and procedures assure all margin
calls are met on no more than a one business day margin call basis
except as a result of administrative error or operational
constraint.\155\
---------------------------------------------------------------------------

\153\ Id.
\154\ Id.
\155\ Id.
---------------------------------------------------------------------------

With respect to the timing of margin payments in JPY, FIA argued
that the Commission's proposal was too restrictive and that such
requirement should focus on the date payment is irrevocably initiated
rather than received.\156\ With respect to the timing of margin
payments in CAD, JPY, and other non-USD currencies, FIA opined that the
Commission's proposal was arbitrary and unworkable.\157\
---------------------------------------------------------------------------

\156\ Id.
\157\ Id.
---------------------------------------------------------------------------

In the Commission's view, a ``one business day margin call'' should
be defined beyond the term itself. FIA did not propose any such
definition, and the Commission believes market participants should have
clarity with respect to the criteria for a one business day margin
call, with clear lines with respect to what conduct is and is not
compliant. Additionally, while FCMs may ensure that margin calls are
generally met within one business day, for purposes of separate account
treatment, the Commission wishes to ensure that such margin calls are
(subject to specified exceptions) always met on a one business day
basis. With respect to FIA's comment that the definition of a one
business day margin call should be based on when payment is irrevocably
initiated, the Commission believes such suggestion may be
impracticable, given the challenge to an FCM in having information that
will reliably prove when a customer has initiated payment and
information on whether and when such payments are ``irrevocable.''
However, in the Second Proposal, the Commission has deleted its
prior proposed specific timing requirements with respect to the making
and meeting of margin calls on a one business day basis. Instead, if an
account is undermargined as a result of the prior day's market moves, a
margin call must be made and met on a same-day basis, with the
allowance of either one or two additional business days for margin
payments in certain non-USD/CAD currencies.\158\ The Commission expects
such alteration will also address FIA's concerns regarding the
recording of precise timestamps with respect to when margin calls have
been made or met.
---------------------------------------------------------------------------

\158\ Such requirement would not apply to margin calls made in
light of intraday market movements.
---------------------------------------------------------------------------

In its comment, the JAC requested that the Commission clarify that
its one business day margin call requirements do not impact existing
regulations regarding the aging of margin calls or clearing FCMs'
financial reporting, regardless of the time of day the FCM issues the
margin call or if the customer is outside the U.S.\159\ The Commission
believes the proposed regulation accomplishes this by specifying that
the definitions contained within proposed regulation Sec. 1.44(a)
apply only for purposes of proposed regulation Sec. 1.44, and that the
margin payment timing requirements of proposed regulation Sec. 1.44(f)
apply solely for purposes of proposed regulation Sec. 1.44.
---------------------------------------------------------------------------

\159\ JAC Comment Letter.
---------------------------------------------------------------------------

The JAC also requested that the Commission clarify that its
proposed codification does not affect the balances recorded in
customers' accounts, or the undermargined amount which the FCM must
include in its residual interest and LSOC compliance calculations.\160\
The Commission notes, with respect to the calculation of balances in
customers' accounts and the undermargined amount which the FCM must
include in its residual interest and LSOC compliance calculations, such
figures

[[Page 15331]]

would be calculated on a separate account basis, as discussed
herein.\161\
---------------------------------------------------------------------------

\160\ Id.
\161\ See, e.g., JAC, Regulatory Alert, #18-02, at 2, June 6,
2018 (discussing undermargined accounts), proposed regulation Sec.
1.44(g)(5).
---------------------------------------------------------------------------

The JAC further requested that the Commission clarify that,
notwithstanding its proposed one business day margin call requirements,
a margin call must be issued to the customer within one business day
after the event giving rise to the margin deficiency, even if the call
cannot be made until after 11:00 a.m. ET, and even if the business day
is not a business day in the customer's jurisdiction. The Commission
believes proposed regulation Sec. 1.44(f)(1) addresses this comment by
removing the link to the specific time of 11:00 a.m. ET. Rather, if as
a result of market moves or position changes on the prior business day,
a separate account is undermargined, then the FCM is required to issue
a margin call for the separate account for at least the amount
necessary for the separate account to meet the initial margin required
by the applicable exchanges or clearing organizations (including, as
appropriate, the equity component or premium for long or short option
positions), and that such call must be met by the applicable separate
account customer no later than the close of the Fedwire Funds Service
on the same business day regardless of what time the margin call was
issued, subject to the proposed limited one or two business-day
exception for margin payments posted by separate account customers in
certain non-USD/CAD currencies, and other exceptions explicitly
provided for in proposed regulation Sec. 1.44(f).
The JAC additionally contended that receipts and disbursements from
separate accounts should occur on the same day.\162\ The Commission
believes this standard will in the main be met where, under the
proposed regulation, customers will be required to meet any margin call
on the day it is issued, with the limited exceptions discussed in the
previous paragraph of one or two business days for payments of margin
in certain non-USD/CAD currencies.
---------------------------------------------------------------------------

\162\ Id.
---------------------------------------------------------------------------

With respect to the timing of margin payments in non-USD/CAD
currencies, the JAC argued that the Commission should adopt a mechanism
to provide timely and efficient changes to payment timelines for
meeting a one business day margin call, and that such authority should
rest solely with the Commission, rather than with individual DCOs, in
order to ensure consistency and avoid confusion where some separately
margined accounts may contain positions with one or more DCO.\163\
---------------------------------------------------------------------------

\163\ Id.
---------------------------------------------------------------------------

The proposed procedure outlined herein to remove currencies from or
add currencies to proposed Appendix A to part 1 as set forth in
proposed regulation Sec. 1.44 is intended to address this
comment.\164\
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\164\ This procedure is intended to seek the aid of market
participants in ``evaluating when a particular foreign currency is
eligible for one-day or two-day settlement,'' and thus, on an
ongoing basis, matching proposed Appendix A to part 1 to current
industry conventions. Cf. FIA Comment Letter.
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While ICE did not object to the Commission's proposed margin
payment timing framework in the First Proposal, ICE recommended that
the Commission clarify that the proposed regulation would not affect
stricter margin call timeframes established by DCOs for clearing
members.
While such clarification may not be required in light of the
applicability of proposed regulation Sec. 1.44 to all FCMs regardless
of clearing membership and removal of the proposed codification from
part 39, for the avoidance of doubt, the Commission states explicitly
that the proposed regulation is not intended to affect or prohibit more
stringent risk management requirements, including margin call
timeframes, that may be established by DCOs with respect to their
members. The Commission confirms that an FCM that is a member of a DCO
is obligated to comply with such DCO's margin call timeframes, applied
in a manner consistent with DCO rules, including those that are more
stringent than those addressed in proposed regulation Sec. 1.44.\165\
This is consistent with the approach taken with respect to other risk
management measures, such as capital requirements.\166\
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\165\ Cf. Sec. 39.17(a)(1) (A DCO shall maintain adequate
arrangements and resources for the effective monitoring and
enforcement of compliance (by its clearing members) with the rules
of the DCO.).
\166\ Compare, e.g., regulation Sec. 1.17(a)(1) (setting
adjusted net capital requirements with an absolute minimum of $1
million, with CME Rule 970.A.1 (setting minimum capital requirements
with an absolute minimum of $5 million).
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In its comment, MFA argued that the proposed regulation failed to
consider that legitimate reasons exist for firms to impose different
margin call deadlines for different clients, and asserted that CFTC
Letter No. 19-17 instead recognized such operational complexities by
affording firms greater operational flexibility in prescribing margin
cutoff times.\167\
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\167\ MFA Comment Letter.
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As discussed above, in this Second Proposal, the Commission has
eliminated time-of-day-specific requirements for when margin calls must
be made and met in favor of a general same-day requirement.
In its comment, SIFMA-AMG argued that the Commission should abandon
its proposed currency-based three-tiered margin payment timing scheme,
arguing that the allowance of grace periods permits for flexibility and
serves to address issues posed by operational complexities.\168\ For
example, SIFMA-AMG further argued that the Commission's proposal did
not consider what would happen if different managers for the same
client chose different Eurozone countries to follow for purposes of
banking holidays, and did not account for parties that may be located
in different time zones. The Commission believes it is important from a
risk mitigation perspective to preserve a one business day margin call
standard, in accordance with industry best practice for prompt
fulfillment of margining requirements, and further believes it
important from a perspective of regulatory certainty that there be
clear lines drawn around the meaning of a one business day margin call.
In this Second Proposal, by eliminating prescriptive margin payment
timing requirements in favor of a requirement that a margin call be
made and met on a same-day basis, with limited extensions for payment
of margin in certain currencies, the Commission seeks to implement a
standard more flexible and capable of addressing operational
complexities than the standard set forth in the First Proposal. With
respect to the specific examples raised by SIFMA-AMG, different
managers, of different separate accounts, for the same customer
(client), would not be precluded from using different countries for
purposes of banking holidays, as each such separate account would be
separately margined. Nonetheless, if that were to create operational
difficulties for the customer, then the customer could resolve those
issues with the managers. Additionally, the Commission again invites
comment on those currencies for which margin payments should be
considered compliant if made by the second business day after a margin
call is issued.
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\168\ SIFMA-AMG Comment Letter.
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The occurrence of a foreign holiday during which banks are closed
may also create difficulties in payment of margin in a fiat currency
other than USD. Therefore, the Commission proposes regulation Sec.
1.44(f)(4), which states that the relevant deadline for payment of
margin in fiat currencies other than USD may be extended by up to one

[[Page 15332]]

additional business day and still be considered in compliance with the
requirements of proposed regulation Sec. 1.44(f) if payment is delayed
due to a banking holiday in the jurisdiction of issue of the currency.
For payments in EUR, either the separate account customer or the
investment manager managing the separate account may designate one
country within the Eurozone with which they have the most significant
contacts for purposes of meeting margin calls in that separate account,
and whose banking holidays shall be referred to for purposes of
compliance with the regulation.\169\
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\169\ With respect to margin payments in EUR, proposed
regulation Sec. 1.44(f)(4) is intended to prevent customers or
investment managers from leveraging banking holidays in a
multiplicity of jurisdictions, to circumvent requirements to pay
margin timely.
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Proposed regulation Sec. 1.44(f)(4) is designed to provide FCMs
with a level of discretion in how they manage risk by allowing an FCM
to permit limited delays in margin payments due to non-U.S. banking
conventions. Proposed regulation Sec. 1.44(f)(4) would not, however,
require an FCM to extend the deadline for payments of margin. Here, the
Commission is seeking to allow FCMs to exercise risk management
judgment in balancing, within limits, the risk management challenges
caused by extending the time before a margin call is met with the
burdens involved in requiring the client or investment manager to
prefund potential margin calls in advance of the holiday or to arrange
to pay margin more promptly in USD or another currency not affected by
the holiday. The Commission expects that FCM risk management decisions,
including the use of any extension permitted under proposed regulation
Sec. 1.44(f)(4), will be made in consideration of relevant risk
management factors; e.g., a client's risk profile and market
conditions, evaluated at the time the risk management decisions are
made.\170\ The Commission included this proposed requirement in the
First Proposal in substantively the same form.
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\170\ This expectation is consistent with the statement of the
directors of DCR and DSIO in issuing CFTC Letter No. 19-17. CFTC,
Statement by the Directors of the Division of Clearing and Risk and
the Division of Swap Dealer and Intermediary Oversight Concerning
the Treatment of Separate Accounts of the Same Beneficial Owner,
Sept. 13, 2019, available at <a href="https://www.cftc.gov/PressRoom/SpeechesTestimony/dcrdsiodirectorstatement091319">https://www.cftc.gov/PressRoom/SpeechesTestimony/dcrdsiodirectorstatement091319</a> (``We fully expect
that DCOs and FCMs and their customers will agree that FCMs must
retain, at all times, the discretion to determine that the facts and
circumstances of a particular shortfall are extraordinary and
therefore necessitate accelerating the timeline and relying on the
FCM's protocol for liquidation or for accessing funds in the other
accounts of the beneficial owner held at the FCM.''). See also CFTC
Letter No. 20-28 (stating the same).
---------------------------------------------------------------------------

In its comment in response to the First Proposal, the JAC argued
that this proposed requirement would create a new recordkeeping
requirement for clearing FCMs, and recommended that the Commission
clarify that it does not impact the requirements of any other CFTC
regulations or SRO rules related to margin calls.\171\ As noted above,
the Commission believes the proposed regulation addresses this comment
in making clear that the requirements in proposed regulation Sec.
1.44(f) for meeting a one business day margin call apply solely for
purposes of proposed regulation Sec. 1.44(f).
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\171\ JAC Comment Letter.
---------------------------------------------------------------------------

In CFTC Letter No. 19-17, staff stated that a failure to deposit,
maintain, or pay margin or option premium due to administrative errors
or operational constraints would not constitute a failure to timely
deposit or maintain initial or variation margin that would place a
customer out of the ordinary course of business. This provision was
intended to prevent a clearing FCM from being excluded from relying on
the no-action position as a result of one-off exceptions, such as mis-
entered data, a flawed software update, or an unusual and unexpected
information technology outage (e.g., an unanticipated outage of the
Fedwire Funds Service).
Accordingly, the Commission proposes regulation Sec. 1.44(f)(5),
which provides that a failure with respect to a specific separate
account to deposit, maintain, or pay margin or option premium that was
called pursuant to proposed regulation Sec. 1.44(f)(1), due to unusual
administrative error or operational constraints that a separate account
customer or investment manager acting diligently and in good faith
could not have reasonably foreseen,\172\ does not constitute a failure
to comply with the requirements of proposed regulation Sec. 1.44(f).
For such purposes, an FCM's determination that the failure to deposit,
maintain, or pay margin or option premium is due to such administrative
error or operational constraints must be based on the FCM's reasonable
belief in light of information known to the FCM at the time the FCM
learns of the relevant administrative error or operational
constraint.\173\ The Commission included this proposed requirement in
the First Proposal in substantially the same form, with one change.
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\172\ One would expect administrative errors at a well-run money
manager to be unusual and unforeseen. For the avoidance of doubt,
``unforeseen'' refers to the particular occurrence of a constraint
or error; for example, the fact that some small percentage of errors
may be foreseen does not mean that any particular error is foreseen
(and ``unusual'' means that such percentage should indeed be small).
Moreover, an unusual and unforeseen administrative error or
operational constraint that prevents payment might occur at one of a
number of points in the payment chain beyond the money manager:
Examples include an error or operational failure on the part of the
bank that the money manager instructs to send a wire transfer to the
FCM, an error or operational failure on the part of the bank (for
cash) or custodian (for securities) designated to receive margin on
behalf of the FCM, or an error or operational failure on the part of
a bank in the middle of a chain between the sending bank and the
FCM's bank (particularly in the context of transfers of foreign
currency).
\173\ The Commission is proposing to establish this
reasonableness standard for an FCM's determination that a failure to
timely deposit, maintain, or pay margin or option premium on the
basis of administrative error or operational constraints. The
Commission believes the proposed standard confers significant
discretion upon FCMs to assess the disposition of their customers
while requiring that FCMs act reasonably and on the basis of current
and relevant information, diligently gathered.
---------------------------------------------------------------------------

The current proposal adds the term ``with respect to a specific
separate account'' to make clear that ``unusual'' is based on a
particular separate account, not the FCM's business with respect to
separate accounts as a whole.\174\
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\174\ Consider an FCM with two dozen separate account customers,
with an average of four separate accounts per customer, resulting in
96 separate accounts for that FCM. If each separate account has an
exception only once per year, that would result in a total of 96
exceptions, or around two per week, for the FCM. While the
Commission does not intend to set a prescriptive definition of
``unusual'' in this context, it may nonetheless be seen that once
per year is unusual, while twice per week is not.
---------------------------------------------------------------------------

In its comment in response to the First Proposal, FIA argued that
the Commission's proposed standards for ``unusual'' and ``unforeseen''
are too subjective and would unnecessarily expose FCMs to enforcement
actions, noting that unusual or unforeseen events are often outside an
FCM's control.\175\ FIA did not, however, propose alternative
standards.
---------------------------------------------------------------------------

\175\ FIA Comment Letter. FIA observes that ``An FCM should not
be subject to administrative sanctions for matters over which the
FCM has no control.'' Id. The requirements of regulation Sec. 1.44
are consistent with that principle.
The consequence of a separate account customer failing to meet a
one-day margin call for reasons that fall outside the scope of an
``unusual administrative error or operational constraints that a
separate account customer or investment manager acting diligently
and in good faith could not have reasonably foreseen'' is that the
customer is outside the ``ordinary course of business,'' and that
thus the FCM must cease treating the separate accounts of the
separate account customer as accounts of separate entities for
purposes of margin distribution under regulation Sec. 1.44(b). That
action--which would be required to be taken by the FCM--is not an
administrative sanction on the FCM, which likely would not have
direct control over financial and operational conditions at its
customer, but rather a measure, designed to protect the FCM and the
markets more broadly, that has a negative effect on the customer
(rather than the FCM).

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[[Page 15333]]

Similarly, MFA in its comment argued that FCMs, asset managers, and
customers benefit from agreed-upon grace periods for shortfalls
resulting from administrative or operational issues unrelated to
ability to pay, and argued that use of terms such as ``unusual,''
``diligently and in good faith'' are subjective.\176\ MFA argued that
the Commission should remove the condition now encompassed by proposed
regulation Sec. 1.44(f)(5).
---------------------------------------------------------------------------

\176\ MFA Comment Letter.
---------------------------------------------------------------------------

In its comment, SIFMA-AMG argued that the Commission should remove
or re-propose the standard that failure to meet margin obligations
``due to unusual administrative error or operational constraints that a
customer or investment manager acting diligently and in good faith
could not have reasonably foreseen'' does not constitute a failure to
comply with the one business day margin call requirement, on the basis
that this proposed provision is ambiguous.
The Commission believes the further criteria for determining the
existence of an administrative error or operational constraint provide
a clearer definition of the meaning of these terms. The Commission
additionally believes that, while FCMs engaged in separate account
treatment should not enter agreements that obviate the risk-mitigating
purpose of requiring margin calls be met on a one business day basis,
proposed regulation Sec. 1.44(f)(5) strikes a reasonable balance in
ensuring that FCMs and customers are not forced to cease separate
account treatment as a result of unusual and unexpected, one-off
errors.
It should also be noted that the provisions of paragraph (f) of
proposed regulation Sec. 1.44 are subject to the language that ``the
following provisions apply solely for the purposes of this paragraph
(f).'' This is separate from, e.g., requirements for margin aging under
regulation Sec. 1.17(c)(5)(viii), which requires payment by the end of
the business day after the business day on which the margin call is
made.
For example, if a margin call for a separate account is made on
Tuesday based on events on Monday, and the margin call is to be met in
JPY, payment by close of business on Thursday would be timely for
purposes of proposed regulation Sec. 1.44(f), because JPY is a
currency listed in proposed Appendix A to part 1, and that payment
would be considered in compliance with the requirements of paragraph
(f) of regulation Sec. 1.44 ``if received by the applicable futures
commission merchant no later than the end of the second business day
after the day on which the margin call is issued.'' However, payment
for that margin call would not be timely for purposes of regulation
Sec. 1.17(c)(5)(viii) unless received by close of business on
Wednesday.
On the other hand, if that margin call is to be made in USD or CAD,
and it is not received until Wednesday, and there is no ``unusual
administrative error or operational constraints that a customer or
investment manager acting diligently and in good faith could not have
reasonably foreseen'' (i.e., proposed regulation Sec. 1.44(f)(5) does
not apply), then, while payment by Wednesday is timely for purposes of
regulation Sec. 1.17(c)(5)(viii), after the close of business on
Tuesday, the separate account customer would be out of compliance with
the one business day margin call called for by proposed regulation
Sec. 1.44(f).
Proposed regulation Sec. 1.44(f)(6) states that an FCM would not
be in compliance with the requirements of proposed regulation Sec.
1.44(f) if it contractually agrees to provide separate account
customers with periods of time to meet margin calls that extend beyond
the time periods specified in proposed regulation Sec. Sec. 1.44(f)(1)
through (5),\177\ or engages in practices that are designed to
circumvent proposed regulation Sec. 1.44(f). The Commission proposes
this provision, which was included in the First Proposal in
substantively the same form, in order to make clear that it is
establishing a maximum period of time in which a margin call must be
met for purposes of this regulation, rather than establishing a minimum
time that an FCM must allow. Proposed regulation Sec. 1.44(f) would
not preclude an FCM from having customer agreements that provide for
more stringent margining requirements, or applying more stringent
margining requirements in appropriate circumstances. The statement that
these ``requirements apply solely for purposes of this paragraph (f)''
means that such requirements are not intended to apply to any other
provision; e.g., they are not intended to define when an account is
undermargined for purposes of regulation Sec. 1.17. Conversely, the
Commission does not propose to prohibit contractual arrangements
inconsistent with proposed regulation Sec. 1.44(f). However, the FCM
would not be permitted to engage in separate account treatment under
such arrangements.
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\177\ For example, if an FCM and a customer contract for a grace
or cure period that would operate to make margin due and payable
later than the deadlines described herein, including a case where
the FCM would not have the discretion to liquidate the customer's
positions and/or collateral where margin is not paid by such time,
such an agreement would be inconsistent with the conditions under
which such FCM may engage in separate account treatment.
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In its comment, CME argued that the proposed regulation could
create confusion by incorrectly implying that customers not utilizing
separate account treatment may be given contractual terms providing for
a period of time longer than one business day to satisfy a margin call
or may otherwise restrict the FCM's discretion as to liquidation in
contravention of CME Group Exchange rules.\178\
---------------------------------------------------------------------------

\178\ CME Comment Letter.
---------------------------------------------------------------------------

In its comment, the JAC similarly contended that the Commission
incorrectly implied that an FCM may contractually agree to a grace or
cure period for any customers that are not treated as separate
accounts, and recommended that the Commission make clear that if an FCM
and customer contract for margin calls to be met on a longer than one
business day basis, then the FCM is not making a bona fide attempt to
collect margin within one business day after the event giving rise to
the margin deficiency.\179\
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\179\ JAC Comment Letter.
---------------------------------------------------------------------------

The Commission notes that it is not proposing this regulation to
conform to the rules of a particular DCO, to the extent the DCO may
prohibit such grace or cure periods, and further notes that this
proposed regulation does not prevent a DCO from maintaining and
enforcing rules that apply more stringent risk management standards to
their clearing members than are set forth therein.
Proposed regulation Sec. 1.44(f)(7) is an exception to proposed
regulation Sec. 1.44(f)(1), dealing with the special case of certain
holidays (i.e., Columbus Day and Veterans day) on which some DCMs may
be open for trading, but on which banks are closed (and, therefore,
payment of margin may be difficult or impracticable). It only applies
to an FCM if that FCM trades on such a DCM, and to a separate account
if that separate account includes positions traded on such a DCM.
Paragraph (i) deals with margin calls based on undermargined
amounts in a separate account resulting from market movements on the
business day before the holiday. Such calls may be made on the holiday,
but would be due by the close of Fedwire on the next business day after
the holiday.\180\
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\180\ Additional days due to other provisions of proposed
regulation Sec. 1.44(f) would also be applicable.
---------------------------------------------------------------------------

Paragraph (ii) deals with margin calls based on undermargined
amounts

[[Page 15334]]

resulting from market movements on the holiday. If, as a result of such
market movements, a separate account is undermargined by an amount
greater than the amount it was undermargined as a result of market
movements or position changes on the business day before the holiday,
the futures commission merchant shall issue a margin call for the
separate account for at least the incremental undermargined amount.
The following uses Veterans Day (November 11) as an example, and
assumes that no relevant day falls on a weekend. If, as a result of
market movements on November 10, a separate account is undermargined by
$100, the FCM would issue a margin call of at least $100 and, payment
of that $100 would be due by the close of Fedwire on November 12.
If that separate account were to be undermargined by a total of
$160 as a result of market movements on November 11, the FCM would
issue a margin call for at least the incremental amount ($160-$100 =
$60) on November 12, and that incremental $60 would also be due by the
close of Fedwire on November 12. If, instead, the separate account
gained $60 on November 11, the original margin call for $100 (issued on
November 11) would still need to be met by the close of Fedwire on
November 12.
By contrast, if the separate account were not undermargined as a
result of market movements on November 10, but then became
undermargined by $60 as a result of market movements on November 11,
the FCM would issue a margin call in the amount of at least $60 on
November 12, and payment would be due by the close of Fedwire on
November 12.
In its comment letter, the JAC also opined that if the Commission
addresses unscheduled banking holidays or U.S. securities market
closures, the Commission should make clear that any such provisions
apply only to determining if a margin call is considered one-day and do
not govern how such holidays or closures are considered for any other
purpose.\181\ The Commission believes the proposed regulation addresses
this comment in making clear that the requirements in proposed
regulation Sec. 1.44(f) for meeting a one business day margin call
apply solely for purposes of proposed regulation Sec. 1.44(f).
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\181\ JAC Comment Letter.
---------------------------------------------------------------------------

CME asserted that unscheduled closings of banks or securities
markets should be handled on an industry-wide basis, based on facts and
circumstances specific to each such situation, and not prescriptively,
noting that CME, FIA, SIFMA, and many other exchanges and clearing
organizations have worked to establish protocols for these
scenarios.\182\ Such unscheduled closings (for, e.g., a national day of
mourning) would fall under the rubric of an ``unusual . . . operational
constraint[ ].''
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\182\ Id.
-----------------------------------

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