Address by Chairman James E. Newsome before the International Futures Industry Conference in Boca Raton, Florida
March 15, 2002
Thank you for inviting me here today. It is both an honor and a pleasure to address this distinguished gathering. It has been a challenging year since I last spoke here, probably one of the toughest years many of us will ever experience. This morning, I want to talk about several key issues, including the lessons we have learned from September 11th, the new money laundering rules under the Patriot Act, and the ongoing Enron situation. I would also like to share with you some of my plans for the coming months, and, to describe for you some of the challenges the Commission faces.
I. September 11th
I want to first commend everyone in this industry who braved the unprecedented challenges and the personal tragedies of September 11th to get the futures markets back up and running within mere days. The steady hand of industry leaders and management teams, the foresight and flexibility of contingency plans prepared in the aftermath of the 1993 attacks or in anticipation of Y2K, the prudent investments of some institutions in redundant facilities and backup systems, the ingenuity and resourcefulness of technical staffs, and most of all the courage and tenacity of every person at every firm in this industry should give all Americans great confidence in the strength and resilience of our financial system.
Because these terrible events presented an unparalleled opportunity to see contingency plans put into action, the Commission decided to prepare a report on its own and the industry’s responses to the crisis. This report was released on Monday and is available on our website. I want to personally thank each of the exchanges, clearinghouses, and firms who responded to our survey questions, as well as the National Futures Association for their assistance in compiling survey responses. As a result of all your efforts, we have been able to share many invaluable lessons that were learned in the past six months and to identify several key issues in the areas of disaster recovery and business continuity plans.
It is my hope that -- by sharing through this report what we have learned thus far about our own preparedness as a financial regulator and about the preparedness of the exchanges, clearinghouses, and firms we oversee -- we might trigger further discussion among market participants. I believe the same creativity and ingenuity that has produced so many innovative new financial products and trading platforms will also generate the best solutions to the challenge of preparing ourselves, as we must, for disasters we hope to never face.
With respect to the Patriot Act, I want to assure you that, while the Treasury Department has the lead role in developing regulations to implement the anti-money laundering provisions of the Act, the Commission has and will continue to be consulted and to participate actively in the rulemaking process. Our staff is working closely with Treasury, other regulators, and market participants to ensure that the goals of this legislation are achieved and are achieved in a manner that is fair and equitable across industry sectors.
II. Energy Markets
I have testified before Congress several times on the Enron situation and reported that, although we have no indication at this time of any attempted manipulation of the on-exchange markets in energy-based futures, we will continue to monitor these markets closely and will pursue all appropriate inquiries. I also reported that Commission staff worked closely with affected clearinghouses and clearing FCMs to ensure that, at no time last fall, were the funds of other customers, the financial strength of the FCMs, or the smooth functioning of the clearing process threatened by Enron’s difficulties. And I reported that these markets for energy-based contracts reacted well, with little or no adverse impact on volatility or liquidity.
Obviously, as an oversight regulator, we will continue to look at how and why markets respond the way they do, whether well or poorly, to a situation such as this one. Separately, as a member of the President’s Working Group on Financial Markets, I worked with Secretary O’Neill, Chairman Greenspan, and Chairman Pitt to review for the President potential improvements in accounting, auditing, and disclosure practices by publicly-held companies.
However, some have called for other responses from Congress, particularly for regulation of markets and transactions that are not currently regulated. The changes proposed thus far would rescind significant advances brought about by the Commodity Futures Modernization Act, which was signed only fourteen months ago by President Clinton with the unanimous support of the President’s Working Group and with overwhelming bipartisan support in Congress. While it is prudent for a regulator to periodically review its procedures to ensure that an appropriate level of oversight is exercised, we must recognize that markets, competition, and technology have changed. I continue to believe that rules tailored to the participant, product, and trading facility are more appropriate than the prescriptive regulations of the past.
I agree with recent statements by Chairmen Greenspan and Pitt indicating that a departure from the path of progress set out in the CFMA should be approached with caution, could cause unintended consequences, and would be premature at this point. To date, I have not found credible evidence to justify such changes. A situation of this sort deserves careful consideration of the facts before action is taken. Only after the true nature of the problem has been determined can the Commission responsibly comment on any changes to our jurisdiction or authority. The Commission, other regulators, and various Congressional committees are conducting inquiries and investigations into various aspects of the Enron situation. I can assure you that the Commission will share the findings of its inquiries, as well as any changes we might believe to be appropriate, with the Congress and the public as soon as possible.
A real strength of the principles-based approach of the CFMA is that it gives trading platforms the freedom to choose for themselves the level of regulatory oversight by selecting which products they will trade and who will be permitted to trade them. The CFMA effectively lowered many barriers to entry and has already begun to promote new competition, competition that can benefit the users of all markets. Revoking these important new freedoms, with as yet no credible basis for doing so, would go completely against the will of Congress as expressed less than a year-and-a-half ago. Doing so would create a regulatory regime that could very well stifle market innovation, hinder investment in new technologies, and even cause markets (and market share) to move offshore.
III. Moving Ahead with CFMA Implementation
I stood here last year and told you that my highest priority was prompt implementation of the CFMA. No one could have anticipated the year we were about to have. Certainly intervening events caused many of us to pull attention away from previous plans and intended courses of action. But implementation of the CFMA remains the most important task before this Commission. And notwithstanding the unexpected challenges, solid progress was made last year on security futures products. We are continuing to move toward permitting trading of these new products at the earliest possible date.
As many of you know, the Commission has issued final rules on notice registration, listing standards, self-certification of rules and rule amendments, data reporting, speculative position limits, and dual trading of single-stock futures. Together with the SEC, we have also issued final rules on how to determine whether an index is a narrow-based security index subject to joint regulation or a broad-based index subject only to our rules. And, with the SEC, we have published jointly proposed rules on margin, customer funds protection issues, cash settlements, and trading halts. In addition, the NFA has developed numerous rules required by its new capacity as a limited-purpose national securities association.
I have repeatedly instructed Commission staff that I have two primary objectives for any rulemaking: first, no rule should be so prescriptive or burdensome that it effectively precludes an economically viable new product or platform from developing; and second, no rule should create an unfair advantage for one industry sector over another or lead to regulatory arbitrage.
Unfortunately, there remain areas of disagreement over certain issues not yet set forth in final rules, particularly with regard to margin requirements for security futures products. Commission staff believe that reaching agreement on the following four issues regarding a joint margin rule is very important to achieving the objectives I just outlined: commercially reasonable regulatory flexibility and rational regulatory parity. First, long option value should be permitted to margin security futures products. Second, SPAN margining should be permitted to be used for calculating margin for offset positions carried in a futures account. Third, mandatory liquidation should not be required. And fourth, the joint margin rule should not apply to the activities of a domestic BD/FCM engaged in foreign transactions for foreign customers.
Chairman Pitt and I agreed generally last year on how to best address the issues that remain before us. Accordingly, we issued a joint statement on December 21st, 2001, the first anniversary of the CFMA’s enactment, expressing our commitment to promulgation of final rules on margin and customer funds protection at the earliest possible date, with a goal of permitting actual trading by early in the second quarter of this year. I remain committed to meeting that objective. However, I believe that in the long term issuing the right rules is as important as issuing rules quickly.
To ensure our ability to properly oversee trading in single stock futures and the many other innovative products and platforms I believe will flourish under the CFMA, the Commission recently announced a restructuring plan to make the agency more responsive, more effective, and more efficient. I hope that all of you, not just those of you who work directly with our staff, will notice these benefits in the months to come. The main thrust of the new structure will be that the functions previously performed by Trading & Markets and Economic Analysis will now be performed by two new divisions and one new office: the Division of Market Oversight, the Division of Clearing and Intermediary Oversight, and the Office of Chief Economist. Additionally, the Offices of Public Affairs and of Legislative and Intergovernmental Affairs were combined to form the new Office of External Affairs.
We recently announced the appointments of Pat McCarty as General Counsel, Gregory Mocek as Director of Enforcement, and Alan Sobba as Director of External Affairs. These individuals are here and I hope that you will visit with each of them. We are also interviewing candidates to lead the other divisions.
The Commission continues to face a serious challenge in attracting and retaining the type of highly skilled and experienced staff that is needed to operate effectively with our new responsibilities under the CFMA. The Commission must move from the role of a front-line regulator to a more flexible oversight role. Some might believe that, in this new capacity, the agency will need fewer resources than in the past. In the near term, anyway, just the opposite is true. The CFMA liberated markets and allowed innovation to flourish, creating new financial products and new trading platforms and permitting clearinghouses to respond in kind. I believe we have seen only the beginning of this exciting process.
This growth and innovation in the marketplace will provide real benefits to participants, customers, and the economy as a whole. However, because our fundamental duties have not changed, this growth and innovation will place increasingly greater demands on our resources. With new exchanges and alternate trading platforms, there is no longer a “template” to follow; rather, oversight must now be tailored to fit a variety of markets along a spectrum of regulatory classifications from basic fraud and manipulation protections to full oversight. To continue to fulfill our mission to promote markets free from congestion and manipulation and to protect market participants from fraud and abusive practices, we must have staff with the proper training and with solid experience in the markets we oversee.
All too often, however, we lose good people just as they are coming into their own as economists, commodity lawyers, and trading specialists. Our overall turnover rate is twice the federal average. Among attorneys it is almost 20% annually. In most, if not all, cases the CFTC’s ability to compensate such highly skilled people lags not only far behind that of the private sector, but also well behind that of the other federal financial regulators, where turnover rates are significantly lower. We are now the only federal financial regulator still subject to the pay restrictions of Title V but we are working diligently with Congress to remedy this problem. It is difficult enough to accept the loss of a productive employee to a higher-paying job in the private-sector but it is downright frustrating to lose such an employee to another federal agency because of disparate pay scales.
In conclusion, let me say that I do recognize there are many other issues I have not mentioned today but which the Commission needs to address. For example, we are looking forward to completing the intermediary study called for by the CFMA and are also considering proposals for rule modernization. We have finalized our timeline for the phases of this important project, including individual interviews which we hope to conduct in late March and early April, public hearings planned for late April, circulation of a final report prior to June 21st, and promulgation of rule amendments as appropriate. As I have said before, modernization of the intermediary rules is a high priority for me. In this, as in every other effort we undertake, your invaluable insights and involvement will be key to its success. I hope that you will partner with us as we move forward in this exciting period for the futures markets. Thank you again.