Bridging the Weeks by Gary DeWaal: December 22, 2014, to January 2 and 5, 2015 (Disruptive Trading, Block Trades, Customer Protection, NDF Clearing, MF Global)

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Published Date: January 04, 2015

New proposed rules and an amended proposed guidance regarding an old rule: 2014 ended with two affiliated exchanges proposing slightly different new rules on disruptive trading (which themselves were each slightly different from a new rule adopted earlier in 2014 by another exchange and under US law), while one exchange amended proposed new FAQs related to an existing rule on block trades just days after its initial proposal. Also, both futures and securities regulators brought enforcement proceedings against firms for violating customer assets protection rules, while one legacy action involving MF Global was finally resolved. As a result, the following matters are covered in this week’s Bridging the Weeks:

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ICE Futures U.S. and Canada Amend Rules to Expressly Prohibit Disruptive Trading Practices

ICE Futures U.S. and ICE Futures Canada proposed new rules expressly prohibiting disruptive trading practices and simultaneously issued proposed frequently asked questions. The new rules are scheduled to be effective January 14, 2015.

ICE’s new rules are generally similar to a recently adopted CME Group rule—Rule 575—prohibiting disruptive trading practices, while its FAQs are also similar to the CME Group FAQs related to Rule 575 that were effective September 15, 2014—however, there are some differences. ICE Futures Canada’s disruptive trading practices rules are also somewhat different than those of ICE Futures U.S.

ICE Futures U.S.’s proposed new rule not only prohibits its own expressly enumerated disruptive trading practices, but “any other manipulative or disruptive trading practices” prohibited under the Commodity Exchange Act or by the Commodity Futures Trading Commission. This likely captures not only the express provisions of the CEA that address disruptive trading practices, but may also capture the prohibitions of the very broad CFTC Rule 180.1 that precludes manipulative and deceptive devices, as well as traditonal proscrptions against manipulation.

Like CME Group, ICE Futures U.S.’s own enumerated prohibited activities include the placement of orders or market messages with the intent (1) to cancel orders before execution, or to modify orders to avoid execution; (2) to overload, delay or disrupt exchange or other market participants’ systems; and (3) “to disrupt the orderly conduct of trading, the fair execution of transactions or mislead other market participants.” At the CME Group, however, actions to disrupt the orderly conduct of trading or the fair execution of transactions are subject to an intent or recklessness standard—a broader criterion.

On the other hand, while orders or messages entered with the intent to mislead other market participants are prohibited at CME Group, under ICE Futures U.S.’s proposed rule, entering orders or market messages with “reckless disregard” for the adverse impact of such orders or messages is prohibited. This standard may capture more activity.

Also, while CME Group’s disruptive practices rule has a general preamble requiring all orders to be entered “for the purpose of executing bona fide transactions,” ICE Futures U.S.’s proposed new rule contains a catch-all provision that appears a bit broader. It prohibits:

[k]nowingly entering any bid or offer for the purpose of making a market price which does not reflect the true state of the market, or knowingly entering, or causing to be entered, bids or offers other than in good faith for the purpose of executing bona fide transactions.

ICE Futures Canada’s catch-all provision to its disruptive trading rule—Rule 8A.10—is more similar to that of the CME Group, while its specific prohibitions parallel those of its sister US exchange. However, like CME Group, ICE Futures Canada also prohibits orders or market messages entered with the express “intent to mislead other market participants”; ICE Futures U.S.'s proposed rule does not contain this precise prohibition.

Finally, the ICE exchanges’ and CME Group’s related FAQs are similar in that both list virtually the identical factors staff will consider in assessing a potential violation. However, the ICE exchanges do not give examples of prohibited activity as does CME Group. The ICE exchanges’ FAQs contain fewer questions and answers.

(Click here to access a discussion of CME Group's Rule 575 in the  article "CME Group Issues New Rule Regarding Disruptive Trading Practices" in the September 4, 2014 edition of Between Bridges. Click here to access CEA Section 4c(a)(5), which prohibits disruptive trading practices and CEA section 6(c)(3), the CFTC's traditional anti-manipulation authority. Click here to access CFTC Rule 180.1 and here to access an article describing the CFTC’s first significant use of Rule 180.1 entitled “CFTC Files and Settles Charges Against JP Morgan Chase Bank Employing Its New Anti-Manipulation Authority Related to Certain of the Bank’s London Whale Trading” in the October 14 to 18 and 21, 2013 edition of Bridging the Week.)

My View: When even a single international exchange such as ICE proposes to prohibit disruptive trading by applying different tests at two affiliates, and when different exchanges and regulators apply not only different tests but different standards to the same essential tests, it is hard to determine in advance whether contemplated trading activity is prohibited or not. Purposely placing and pulling bids or offers on one side of a market solely to move the market to effectuate an execution on the other side is likely a problem. But there can be circumstances where bluffing the market is a necessary precursor to executing bona fide hedge transactions at fair prices in an otherwise illiquid market. This area of regulation will continue to evolve, but in the interim, unfortunately, trader beware!

In Time for Christmas, CFTC Gives FCMs, SDs and MSPs Gift of Time Extension to File CCO Annual Report; However, Adds Content Requirements As the Price

Just prior to Christmas 2014, the Commodity Futures Trading Commission’s Division of Swap Dealer and Intermediary Oversight issued no-action relief extending the deadline by when chief compliance officer annual reports must be filed with the CFTC by futures commission merchants, swap dealers and major swap participants with fiscal years ending on or before January 31, 2015, At the same time DSIO published a separate advisory of “best practices” regarding the content of such reports.

In its no-action relief, DSIO staff granted relevant firms whose fiscal year ends on or before January 31, 2015, an extra 30 days—or 90 days in total following their fiscal year-end—to file their CCO annual report.

Moreover, FCMs, SDs and MSPs may have an additional 30 days to file their CCO annual report—or 120 days in total—if, by no later than 90 days following their fiscal year-end, they “inform” DSIO “of any material non-compliance events that occurred during the fiscal year that is the subject of the annual report. Again, this additional relief is available only to FCMs, SDs and MSPs whose fiscal year ends on or before January 31, 2015.

In its advisory, DSIO provides insight into what it expects to be included in CCO annual reports. Although staff states that its recommendations “are not requirements and do not need to be used,” it makes clear that it “expects CCOs to make efforts to incorporate [the] advisory into their current annual report.” Accordingly, to minimize potential issues with CFTC staff, firms should incorporate as many of DSIO’s recommendations as practical into their CCO annual reports.

(Click here to access a discussion of DSIO’s content recommendations in a separate January 2, 2015 edition of Between Bridges.)

And briefly:

My View: One of the unfortunate consequences of the US failing to have a single overseer of financial markets and products, is that there is a material dichotomy between the customer assets protection regimes of futures commission merchantsregulated by the Commodity Futures Trading Commission— and broker-dealers—regulated by the SEC. This is even the case for combined FCMs and BDs. For those entities there could be as many as five different ways to protect customer assets with many material and subtle differences. This may have been quaint once upon a time, but not any longer. The CFTC and SEC should work together to derive a more common approach to customer funds protection and seek legislative change, where necessary.

My View: The reference by FEM to promoting a “robust liquidity pool,” reminded me of one of the hidden dangers of exchange-traded derivatives clearing: unfortunately, there is sometimes a belief that because it is cleared it is liquid. Unfortunately, as a few futures commission merchants have experienced, this is not necessarily true. An FCM that maintains customer positions can sadly find out after a customer default, that the customer’s short positions in some specific option strike prices, swap futures, or even cleared swaps are not as liquid as initially thought, or became materially less liquid over time. This is discovered when an effort is made to liquidate the client’s portfolio and the FCM also discovers that the initial margin posted for the positions is not remotely sufficient to cover the duration of the actual liquidation in light of real market conditions.

And more briefly:

For more information, see:

BIS Proposes Changes to Standardized Approach to Credit Risk:

Broker-Dealer Fined US $3 Million by FINRA for Customer Protection Rule Violations:

CBOE and C2 Delegate Market Surveillance and Certain Other Oversight Functions to FINRA:

CFTC Staff Extends Time for FCMs to Acquire Certain Depository Acknowledgement Letters:

CFTC Advisory Subcommittee Recommends Globally Coordinated NDF Clearing Mandate With a Clear Timeline:

CME Group Amends Proposed Guidance Related to Wash Trade Rules and Block Trades:

Fed Publishes Volker Rules FAQs; CFTC Too:

See also
CFTC Volker Rule FAQs:
SEC Volker Rule FAQs:

FCM Fined US $3 Million by CFTC for Improper Investment of Customer Funds and Financial Reporting, Recordkeeping and Supervision Violations:

ICE Futures U.S. and Canada Amend Rules to Expressly Prohibit Disruptive Trading Practices:



In Time for Christmas, CFTC Gives FCMs, SDs and MSPs Gift of Time Extension to File CCO Annual Report; However, Adds Content Requirements As the Price:

Filing Extension Relief:

Content Advisory:

Investment Company and Former CEO Charged With Defrauding Investors Related to Sale of Index Products Using ETFs; Firm Settles by Payment of US $35 Million:

MF Global Holding Company Settles With CFTC Related to Subsidiary’s Collapse:

Monex Securities Sanctioned by FINRA for Not Registering and Supervising Non-US Personnel; President and Chief Compliance Officer Suspended:

UK FCA Consults on Potentially Overseeing Other Benchmarks:

The information in this article is for informational purposes only and is derived from sources believed to be reliable as of December 31, 2014. No representation or warranty is made regarding the accuracy of any statement or information in this article. Also, the information in this article is not intended as a substitute for legal counsel, and is not intended to create, and receipt of it does not constitute, a lawyer-client relationship. The impact of the law for any particular situation depends on a variety of factors; therefore, readers of this article should not act upon any information in the article without seeking professional legal counsel. Katten Muchin Rosenman LLP and/or Gary DeWaal may represent one or more entities mentioned in this article. Quotations attributable to speeches are from published remarks and may not reflect statements actually made.

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Gary DeWaal

Gary DeWaal is currently Special Counsel with Katten Muchin Rosenman LLP in its New York office focusing on financial services regulatory matters. He provides advisory services and assists with investigations and litigation.

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