A fundamental tenet of the Commission’s customer protection framework is the safeguarding and investment of customer funds deposited by customers with futures commission merchants (“FCMs”) and derivatives clearing organizations (“DCOs”) to margin futures, foreign futures, and cleared swaps transactions.  This proposal to revise the Commission’s regulations for the safeguarding and investment of customer funds by FCMs and DCOs in Commission regulations 1.20, 1.25, 1.26, 1.32, 22.2, 22.3, and 30.7 along with the relevant appendices does not change this foundational principle.  This proposal embodies a prudent, periodic reassessment of these requirements to ensure that this framework remains appropriately calibrated to preserve principal and maintain liquidity.  Therefore, I support the Commission issuing this proposal for public comment.

Modernizing the List of Permitted Investments of Customer Funds

Regulation 1.25 currently permits FCMs and DCOs to invest customer funds in, among other things, U.S. government securities, municipal securities, and U.S. agency obligations.  The Commission’s proposal would expand the list of permitted investments to add the foreign sovereign debt of Canada, France, Germany, Japan, and the United Kingdom, and add interests in certain short-term U.S. Treasury exchange-traded funds.  These investments would be subject to various restrictions based on credit default spreads, time-to-maturity, concentration limits, and liquidity conditions that limit FCMs and DCOs to investing customer funds in safe investments.  The Commission’s proposal to add these instruments follows a detailed staff analysis of these instruments’ liquidity, volatility, and credit characteristics.  To the extent the proposal refines regulations in response to a decade of market developments including, but not limited to, the LIBOR transition to SOFR, changes to the broader U.S regulatory framework, and lessons learned from the implementation of the electronic access requirement, the amendments exemplify good government.

FCM and DCO Permitted Investments Parity

FCMs and DCOs operate in tandem as the backbone of our cleared markets. Given that the number of FCMs that offer customer clearing has significantly decreased in the past decade, alignment of the types of investments permitted for FCMs and DCOs is an essential component to maintaining market continuity and resiliency for customer clearing.  The proposal would permit FCMs and DCOs to invest customer funds in the same narrowly-tailored set of foreign sovereign debt to the extent that FCMs and DCOs hold balances owed to customers in the currency of the issuing sovereign and subject to certain eligibility, credit, and time-to-maturity conditions. This addition to the list of permitted investments would not only minimize FCMs’ exposure to foreign currency risk fluctuations, but also incorporate the exact same conditions currently in place for CFTC registered DCOs to uneventfully invest customer funds in French and German sovereign debt—conditions that have been in place for the past five years.  Simply put, a level playing field across agency registrants.

Stay Strong

The proposal would not undermine or weaken any of the safeguards that the Commission has had in place since 2011.  In fact, the Commission recognized in the 2011 final rule release “that the safety of sovereign debt issuances of one country may vary greatly from those of another, and that investment in certain sovereign debt may be consistent with the objectives of preserving principal and maintaining liquidity, as required by Regulation 1.25.”[1]  The Commission not only anticipated, but “invite[d] FCMs and DCOs that seek to invest customer funds in foreign sovereign debt to petition the Commission pursuant to Section 4(c)[2].  This proposal incorporates the Section 4(c) order and its conditions that the Commission provided to DCOs in 2018.

Welcome Public Comment

I look forward to hearing the public’s comments for further guidance on how to strengthen Regulation 1.25 and the related regulations, while also making the derivatives markets more resilient and less concentrated.

I want to thank Abigail Knauff, and staff in the Market Participants Division, Division of Clearing and Risk, Office of the General Counsel, and the Office of the Chief Economist for all of their work on the proposal.