Commodity Futures Trading Commission
“Public Roundtable Regarding the Residual Interest Deadline”
Thursday, March 3, 2016
Key Topics & Takeaways
- Enhanced Customer Protections: William Thum, Principal at Vanguard, said that he supports the practice for a futures commission merchant (FCM) to front the margin for customers, but not accrue a capital charge for up to five days. Thum described Vanguard’s experience over the past year as “very positive.” He stressed that the enhanced protection rule as it was finalized added “much needed transparency and protection for the markets in terms of much greater certainty that customer funds will be protected.”
- Deadline Acceleration: Chairman Massad asked if smaller markets would be affected if the residual interest deadline was accelerated. Tom Kadlec, President of ADM Investor Services, Inc., said if the T+1 deadline is altered, it would be challenging as the cost would burden end-users, such as small agricultural companies and farmers.
- Timothy Massad, Chairman, CFTC
- Sharon Bowen, Commissioner, CFTC
- Christopher Giancarlo, Commissioner, CFTC
- Eileen Flaherty, Director of the Division of Swap Dealer and Intermediary Oversight, CFTC
- Thomas Smith, Deputy Director, Capital, Margin and Segregation, CFTC
- Joshua Beale, Attorney-Advisor of the Division of Swap Dealer and Intermediary Oversight, CFTC
- Stephen Kane, Research Economist, CFTC
- Patrick Sheehan, Vice President, Goldman Sachs
- Maureen Burke, Citigroup Global Markets
- William ‘Bill’ Tirrell, Managing Director, Bank of America Merrill Lynch
- Mark Buro, Director, Bank of America Merrill Lynch
- Tom Kadlec, President, ADM Investor Services, Inc.
- Gerry Corcoran, Chairman & Chief Executive Officer, R.J. O’Brien & Associates, LLC
- Todd Kemp, Vice President of Marketing and Treasure, National Grain and Feed Association
- Dustin Baker, Manager, National Pork Producers Council
- Predrag Rogić, Vice President & Senior Legal Counsel, T. Rowe Price
- William Thum, Principal, Vanguard
- Regina Thoele, Senior Vice President, National Futures Associatioon
- Debbie Kokal, Director, Chicago Mercantile Exchange
Commissioner Sharon Bowen
In her opening statement, Commodity Futures Trading Commission (CFTC) Commissioner Sharon Bowen explained that the new regulation that requires FCMs to have adequate money to cover customers if they have insufficient money in their own accounts. She explained that the reserved money, or residual interest, is for the protection of the customer. With that, Bowen expressed interest in insights as to when the residual deadline should be, while noting that 6pm the next day “does not represent the earliest that the deadline has to be.”
Joshua Beale, Attorney-Advisor of the Division of Swap Dealer and Intermediary Oversight (DSIO)
Beale briefly presented the background of the Commission’s amendment to Regulation 1.22 that requires a FCM to maintain its own capital or residual interest in customer segregated accounts in an amount equal to or greater than its customers’ aggregate under a margined amount. He stated that the rule “expressly prohibits” a FCM from using the collateral of one customer to margin, secure, or guarantee the trades or contracts of other customers.
Beale noted that the Commission established a phased-in compliance schedule with an initial residual interest deadline of 6pm EST on the day of the settlement. Beale explained that, on March 17, 2015, the Commission amended Regulation 1.22 to remove the December 31, 2018 automated termination of the phased-in compliance period, and in doing so, the Commission stated its intention to retain the residual interest deadline at 6pm EST unless the Commission takes further action via ruling. He highlighted that the removal of the automated termination would enable the Commission to evaluate all viable data to revise the residual interest deadline.
Question and Answer
Thomas Smith, Deputy Director, Capital, Margin and Segregation of the DSIO, explained to the panel that the residual interest deadline is “one part of the customer protection rulemaking.” He asked panelists their general observation of the deadline’s current state of play and the transition of the original status to the T+1 deadline.
Debbie Kokal, Director of Chicago Mercantile Exchange, described the complexity of residual interest and the procedures used by different firms to calculate it. She advised not looking at residual interest in isolation, but as one of the layers of customer protection. She stated that in “January and February 2016, alone, there is a confirmed $275 billion in residual interest over 3,500 accounts indicating a strong enhance in the regulation.”
Enhanced Customer Protections
William Thum, Principal at Vanguard, said that he supports the practice for a FCM to front the margin for customers, but not accrue a capital charge for up to five days. Thum described Vanguard’s experience over the past year as “very positive.” He stressed that the enhanced protection rule as it was finalized added “much needed transparency and protection for the markets in terms of much greater certainty that customer funds will be protected.” He also stated that there is “better” CFTC and self-regulatory organization (SRO) transparency in customer accounts. Thum stated that the CTFC should consider extending the legal segregation with operational commingling (LSOC) protections to the futures market. He concluded that at present, he recommends the Commission retains the T+1 at 6pm EST deadline.
Predrag Rogić, Vice President & Senior Legal Counsel at T. Rowe Price, said that in terms of his direct experience with the deadline, “not much has changed” in the day-to-day. He stressed that the purpose of the deadline is to maintain compliance with the basic principles that FCMs are not using margins of one customer to support another. Rogić did note that if the Commission maintains the T+1 deadline, there needs to be an understanding that “the margin is not in compliance with Regulation 1.22A.”
Chairman Massad asked if smaller markets would be affected if the residual interest deadline was accelerated.
Todd Kemp, Vice President of Marketing and Treasurer at the National Grain and Feed Association, replied that with respect to where the market is today, he has not seen a lot of small market participants drop out.
Tom Kadlec, President of ADM Investor Services, Inc., said if the T+1 deadline is altered, it would be challenging as the cost would burden end-users such as small agricultural companies and farmers, rather than large financial institutions.
Gerry Corcoran, Chairman and Chief Executive Officer at R.J. O’Brien & Associates, LLC, added that there has not been a reduction in the smaller markets, but there is a challenge for the local markets when the exchanges are open but local banks are closed. Furthermore, he stated the need for more analysis on the “small holes” in the regulation to ensure accurate liquidity in local communities. Corcoran affirmed that moving the deadline earlier in the day is not practical.
Thum asked CFTC staff if they have given evaluations to a LSOC model for futures.
Maureen Burke, Citigroup Global Markets, added that a “tremendous amount of time was spent, both operationally and technologically, on the LSOC infrastructure.” Burke explained that if the Commission is to move to a LSOC type structure, “it would require a lot of time and technology.” She concluded that the LSOC model was not appropriate for futures.
Eileen Flaherty, Director of the DSIO, responded that the Commission is solely focused on the T+1 at 6pm EST deadline.
For more information on this hearing, please click here.
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