FR Doc E9-29730[Federal Register: December 16, 2009 (Volume 74, Number 240)]
[Proposed Rules]
[Page 66598-66601]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr16de09-25]
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COMMODITY FUTURES TRADING COMMISSION
17 CFR Part 190
RIN 3038-AC90
Operation, in the Ordinary Course, of a Commodity Broker in
Bankruptcy
AGENCY: Commodity Futures Trading Commission.
ACTION: Notice of proposed rulemaking.
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SUMMARY: The Commodity Futures Trading Commission (the ``Commission'')
proposes amending its regulations (17 CFR Chapter 1, hereinafter, the
``Regulations'') regarding the operation of a commodity broker in
bankruptcy, in order to permit the trustee in such bankruptcy to
operate, with the written permission of the Commission, the business of
such commodity broker in the ordinary course, including the purchase or
sale of new commodity contracts on behalf of the customers of such
commodity broker under appropriate circumstances, as determined by the
Commission.
DATES: Submit comments on or before January 15, 2010.
ADDRESSES: You may submit comments, identified by RIN number, by any of
the following methods:
Federal eRulemaking Portal: http://www.regulations.gov.
Follow the instructions for submitting comments.
Agency Web Site: http://www.cftc.gov. Follow the
instructions for submitting comments on the Web site.
E-mail: [email protected]. Include the RIN number in the
subject line of the message.
Fax: 202-418-5521.
Mail: David A. Stawick, Secretary of the Commission,
Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st
Street, NW., Washington, DC 20581.
Hand Delivery/Courier: Same as mail above.
FOR FURTHER INFORMATION CONTACT: Robert B. Wasserman, Associate
Director, Division of Clearing and Intermediary Oversight, 202-418-
5092, [email protected]; or Nancy Schnabel, Special Counsel, Division
of Clearing and Intermediary Oversight, 202-418-5344,
[email protected]; Commodity Futures Trading Commission, Three
Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581.
SUPPLEMENTARY INFORMATION
I. Authority of the Commission To Promulgate and Amend Regulation
190.04(d)
The Commission is empowered by Section 20 of the Commodity Exchange
Act (the ``Act'') to provide ``[n]otwithstanding title 11 of the United
States Code * * * with respect to a commodity broker that is a debtor
under chapter 7 of title 11 of the United States Code, by rule or
regulation * * * (3) the method by which the business of such commodity
broker is to be conducted or liquidated after the date of the filing of
the petition under such chapter, including the payment and allocation
of margin with respect to commodity contracts not specifically
identifiable to a particular customer pending their orderly
liquidation.'' \1\
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\1\ 7 U.S.C. 24.
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The Commission exercised such power to promulgate Regulation
190.04(d), which specifies the procedures that a trustee must follow in
liquidating open commodity contracts carried by a commodity broker in
bankruptcy. Similarly, the Commission will exercise such power when
amending Regulation 190.04(d).
Currently, Regulation 190.04(d)(2) denies a trustee the authority
to purchase or sell new commodity contracts on behalf of customers of a
commodity broker in bankruptcy, except to: (1) Offset an open commodity
contract; (2) transfer any transferable notice (received by either the
trustee or the commodity broker) applicable to an open commodity
contract; and (3) cover, in its discretion and with the approval of the
Commission, inventory or commodity contracts of the commodity broker
that cannot be immediately liquidated due to market conditions
(including price limits).\2\
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\2\ 17 CFR 190.04(d)(2).
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[[Page 66599]]
II. Proposed Amendment To Allow the Trustee To Operate, in the Ordinary
Course, a Commodity Broker in Bankruptcy
A. Background
In the proposing release to the original Regulation Part 190 (the
``Proposing Release''), the Commission specified the purposes that it
intended Regulation Part 190 to achieve, which included:
[T]o limit the period during which the bankruptcy estate is at
risk from fluctuations in value of the commodity contracts and other
property contained therein; * * * to maximize recovery in kind; and
* * * to provide an understandable and workable method for operating
the estate pending liquidation.\3\
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\3\ 46 FR 57535, 57536 (November 24, 1981).
In the typical case, a commodity broker in bankruptcy would be
insolvent. If a commodity broker is insolvent, then it would not have
the capital necessary for operating its business, including for
supporting the credit of its customers, or for otherwise performing on
its obligations.\4\ Thus, preventing a trustee from purchasing or
selling new commodity contracts, whether for the commodity broker or
the customers thereof, would generally (i) minimize the risk of loss to
customers of the commodity broker, and (ii) therefore, maximize the
scope of recovery for such customers.
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\4\ In general, commodity brokers are required to guarantee all
customer positions that they carry, as well as to use their own
capital to cover the debit balance of any customer in an omnibus
segregated account that they maintain, in order to prevent the
commodity broker from using the property belonging to other
customers to margin, guarantee, or secure the positions of the
customer incurring such debit. See Section 4d of the Act (7 U.S.C.
6d). See also CFTC Letter No. 00-106 (November 22, 2000) (stating
that a commodity broker that is a futures commission merchant
(``FCM'') must cover any deficit in the customer segregated account
with its own funds or property, and not the funds or property of
other customers).
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However, certain purchases or sales of new commodity contracts may
actually reduce the risk of loss to customers of a commodity broker in
bankruptcy. Therefore, when the Commission promulgated Regulation Part
190 in 1983, the Commission created certain exceptions to Regulation
190.04(d)(2), as described above. By creating such exceptions, the
Commission acknowledged that the trustee must be allowed to purchase or
sell new commodity contracts, whether for the commodity broker or the
customers thereof, in order to: (1) Liquidate open commodity contracts;
or (2) transfer an incipient delivery obligation of an open commodity
contract. Facilitating such liquidation would limit the period in which
the estate of the commodity broker is at risk for fluctuations in
value. Permitting such transfer would tend to maximize recovery of
customers of the commodity broker, by allowing the trustee to minimize
or avoid claims for losses resulting from the inability of the estate
of the commodity broker to fulfill obligations to take or effect
delivery on open commodity contracts.
In addition to the exceptions enumerated above, the Commission
acknowledged that, if the trustee cannot immediately liquidate the
inventory or open commodity contracts of a commodity broker in
bankruptcy, because of market conditions (including price limits), then
the trustee should be allowed to purchase or sell new commodity
contracts, in order to cover or partially cover such inventory or
commodity contracts. The Commission intended to permit such cover or
partial cover in order to prevent, among other things, the ``material
erosion in value'' of such inventory or commodity contracts, which
would diminish the recovery of the customers of the commodity
broker.\5\
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\5\ In the Proposing Release, the Commission included the
following version of Regulation 190.04(d)(2) (referenced in the
Proposing Release as Regulation 190.04(d)(3)): Nothing in this Part
shall be interpreted to permit the trustee to purchase new commodity
contracts for customers of the debtor: Provided, however, That to
prevent material erosion in value, the trustee may, in its
discretion and with the approval of the Commission, cover uncovered
inventory or commodity contracts of the debtor which cannot be
liquidated immediately because of limit moves or other market
conditions.
46 FR 57353, 57561 (November 24, 1981). However, in the adopting
release to Regulation Part 190 (the ``Adopting Release''), the
Commission removed the reference to ``material erosion in value'' in
proposed Regulation 190.04(d)(2), in response to a comment that such
reference would ``have limited the cases in which cover transactions
could be sought by the trustee.'' Nevertheless, the Commission
reiterated in the Adopting Release that the primary purpose of
Regulation 190.04(d)(2) was to prevent a ``material erosion in
value'' of uncovered inventory or commodity contracts, by stating
that ``the Commission * * * believes cover transactions would be
limited to this purpose.'' 48 FR 8716, 8729 (March 1, 1983).
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B. The Proposed Amendment
The Commission is proposing to amend Regulation 190.04(d) to allow
the trustee, under appropriate circumstances, to operate the business
of a commodity broker in bankruptcy in the ordinary course, including
the purchase or sale of new commodity contracts on behalf of the
customers of the debtor (the ``Amendment''). The appropriateness of a
particular set of circumstances would be determined by the Commission
in its discretion, and such operation would require the written
permission of the Commission. Pursuant to Regulation 190.10(d), the
Commission has delegated all the functions of the Commission in
Regulation Part 190, except one, to the Director of the Division of
Clearing and Intermediary Oversight, and therefore, under this proposed
amendment, the Director would also have the power to make such
determination and to issue such written permission.\6\
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\6\ Regulation 190.10(d) would apply to the proposed Amendment.
Regulation 190.10(d) states:
Until such time as the Commission orders otherwise, the
Commission hereby delegates to the Director of the Division of
Clearing and Intermediary Oversight, and to such members of the
Commission's staff acting under his direction as he may designate,
all the functions of the Commission set forth in this part except
the authority to approve or disapprove a withdrawal or settlement of
a commodity account by a public customer pursuant to Sec.
190.06(g)(3).
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C. Rationale for the Proposed Amendment
Recently, events have demonstrated that a commodity broker may
enter into bankruptcy while not insolvent.\7\ For example, on Friday,
November 25, 2005, after the closing of the relevant markets, Refco,
LLC (``Refco'') filed for relief under Subchapter IV of Chapter 7 of
the Bankruptcy Code, primarily to satisfy a precondition for the sale
of its FCM business to a third party. Previously, the United States
Bankruptcy Court for the Southern District of New York (``District
Court'') had approved the sale of that FCM business. According to the
agreement governing the sale, the third party would give the parent
entities of Refco (i) a specified sum and (ii) the opportunity to
retain the net regulatory capital of Refco.\8\
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\7\ The Bankruptcy Code permits a solvent entity to legally file
for relief under Chapter 7 of the Bankruptcy Code. See Collier on
Bankruptcy ] 109.03[2].
\8\ See In re: Refco, LLC, No. 05-60134-rdd, Docket No. 5
(Bankr. S.D.N.Y. Nov. 25, 2005).
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Shortly after Refco filed for relief under Subchapter IV of Chapter
7 of the Bankruptcy Code, the sale of its FCM business to a third party
was consummated. Prior to the re-opening of the relevant markets on
Sunday, November 27, 2005, all of the customer accounts of Refco,
comprising one hundred percent of the net equity of each customer, were
transferred to the third party.
During the Refco proceedings, it was practicable to transfer
customer accounts when all relevant markets were closed. However, it
may not always be so practicable. For example, on Friday, September 19,
2008, prior to the closing of the relevant markets, Lehman Brothers
Inc. (``Lehman'') became the subject of a proceeding under the
Securities Investor Protection
[[Page 66600]]
Act of 1970 (``SIPA''),\9\ primarily to satisfy a precondition for the
sale of its securities broker-dealer business and its FCM business to a
third party. On Saturday, September 20, 2008, the District Court
approved the sale of such securities broker-dealer business and FCM
business, in exchange for the third party giving the parent of Lehman a
specified sum.\10\ Shortly after such approval, the sale was
consummated. Soon after the consummation, the customer accounts of
Lehman began to be transferred to the third party. However, because the
Lehman proceedings under SIPA had commenced in District Court prior to
the closing of the relevant markets, customers of Lehman would have
been unable to manage their accounts, absent a provision in the Order
issued by the District Court permitting the trustee to conduct business
in the ordinary course.\11\
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\9\ 15 U.S.C. 78aaa-111.
\10\ See In re: Lehman Brothers Holdings Inc., et al., No. 08-
13555, Docket No. 258 (Bankr. S.D.N.Y. Sept. 20, 2008).
\11\ See S.I.P.C. v. Lehman Brothers, Inc., No. 08-8119, Docket
No. 3 (S.D.N.Y. September 19, 2008).
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The Commission is proposing the Amendment to enable customers to
manage their accounts, after their commodity broker enters into
bankruptcy and prior to the transfer of their accounts, in certain
circumstances. As the Refco and Lehman proceedings illustrate, there
may be cases where a transfer of customer accounts has been arranged
pre-bankruptcy, and where a commodity broker in bankruptcy may
nevertheless possess the capital necessary to continue operating its
business in the ordinary course (e.g., to continue supporting the
credit of its customers and performing on its other obligations),
pending imminent transfer of customer accounts to another commodity
broker. Therefore, permitting the trustee to operate such business in
the ordinary course may advance the purpose of Regulation Part 190--
namely, ``to provide an understandable and workable method for
operating the estate pending liquidation.'' \12\ Thus, the proposed
Amendment is consistent with the past practice of the Commission in
creating exemptions to Regulation 190.04(d)(2) when necessary to
advance the purposes of Regulation Part 190. Additionally, allowing
customers to manage their accounts, as much as possible, as if the
commodity broker had not entered into bankruptcy would be in the best
interests of both the customers and the relevant markets in general.
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\12\ 46 FR 57535, 57536 (November 24, 1981).
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Whether a commodity broker in bankruptcy has sufficient capital to
continue operating its business in the ordinary course is inherently a
factual question. Therefore, the Commission reserves the power to limit
the application of the proposed Amendment, in its discretion, by: (1)
Requiring the trustee to obtain the written permission of the
Commission; and (2) determining the circumstances under which the
trustee may purchase or sell new commodity contracts on behalf of
customers of the commodity broker in bankruptcy.
In deciding whether to apply the proposed Amendment to a particular
commodity broker in bankruptcy, the Commission may consider the
following factors: (1) Whether the commodity broker has entered into an
agreement providing for the imminent transfer of its customer accounts
to an entity that is ready, willing and able to accept such transfer
promptly; (2) whether the commodity broker has sufficient capital, at
the time it becomes subject to bankruptcy proceedings, to continue
operating its business in the ordinary course pending the transfer; and
(3) whether a commodity broker will have sufficient capital, after the
sale of its assets (including its FCM business), to continue operating
its business in the ordinary course until all of its customer accounts
have been transferred. The Commission anticipates that future
bankruptcies of commodity brokers may present new factors for its
consideration, and the proposed Amendment is therefore intended to
provide the Commission with flexibility to consider such new factors in
its discretion.
III. Related Matters
A. Regulatory Flexibility Act
The Regulatory Flexibility Act (``RFA'') \13\ requires Federal
agencies, in promulgating regulations, to consider the impact of those
regulations on small businesses. As mentioned above, the proposed
Amendment provides a limited exception to Regulation 190.04(d)(2), by
permitting a trustee to operate, with the written permission of the
Commission, the business of a commodity broker in bankruptcy in the
ordinary course, including the purchase or sale of new commodity
contracts on behalf of the customers of such commodity broker. The
proposed Amendment does not impose a regulatory burden on either a
commodity broker pre-bankruptcy or a trustee post-bankruptcy. Moreover,
the proposed Amendment will affect only FCMs (including certain foreign
futures commission merchants).\14\ The Commission has previously
established certain definitions of ``small entities'' to be used by the
Commission in evaluating the impact of its regulations on such entities
in accordance with the RFA.\15\ The Commission has previously
determined that FCMs are not small entities for the purpose of the
RFA.\16\ Accordingly, pursuant to 5 U.S.C. 605(b), the Chairman
certifies, on behalf of the Commission, that the proposed Amendment
will not have a significant economic impact on a substantial number of
small entities.
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\13\ 5 U.S.C. 601 et seq.
\14\ The proposed Amendment may apply, in the future, to other
commodity brokers that execute trades and carry accounts for
clearing on behalf of customers--namely, commodity options dealers
and leverage transaction merchants. Currently, no such commodity
brokers exist. Therefore, even if such commodity brokers would
constitute ``small entities'' for purposes of the RFA, the proposed
Amendment can have no current impact on such commodity brokers.
However, it is unlikely that such commodity brokers would constitute
``small entities'' for purposes of the RFA. In defining ``small
entities'' for the purpose of the RFA, the Commission excluded FCMs
based on the fiduciary nature of FCM-customer relationships, as well
as the minimum financial requirements that apply to FCMs. See 47 FR
18618, 18619 (Apr. 30, 1982). Certain parts of this rationale would
also be applicable to commodity options dealers, foreign futures
commission merchants, and leverage transaction merchants.
\15\ 47 FR 18618 (Apr. 30, 1982).
\16\ Id. at 18619.
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B. Paperwork Reduction Act
The Paperwork Reduction Act (``PRA'') \17\ imposes certain
requirements on Federal agencies in connection with their conducting or
sponsoring any collection of information as defined by the PRA. The
proposed Amendment does not require the new collection of information
on the part of any entities that would be subject to the proposed
Amendment. Accordingly, for purposes of the PRA, the Commission
certifies that the proposed Amendment, if promulgated in final form,
would not impose any new reporting or recordkeeping requirements.
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\17\ 44 U.S.C. 3501 et seq.
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C. Cost-Benefit Analysis
Section 15(a) of the Act \18\ requires that the Commission, before
promulgating a regulation under the Act or issuing an order, consider
the costs and benefits of its action. By its terms, Section 15(a) of
the Act does not require the Commission to quantify the costs and
benefits of a new regulation or to determine whether the benefits of
the regulation outweigh its costs. Rather,
[[Page 66601]]
Section 15(a) of the Act simply requires the Commission to ``consider
the costs and benefits'' of its action.
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\18\ 7 U.S.C. 19.
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Section 15(a) of the Act further specifies that costs and benefits
shall be evaluated in light of the following considerations: (1)
Protection of market participants and the public; (2) efficiency,
competitiveness, and financial integrity of futures markets; (3) price
discovery; (4) sound risk management practices; and (5) other public
interest considerations. Accordingly, the Commission could, in its
discretion, give greater weight to any one of the five considerations
and could, in its discretion, determine that, notwithstanding its
costs, a particular regulation was necessary or appropriate to protect
the public interest or to effectuate any of the provisions or to
accomplish any of the purposes of the Act.
The Commission has evaluated the costs and benefits of the proposed
Amendment, in light of the specific considerations identified in
Section 15(a) of the Act, as follows:
1. Protection of Market Participants and the Public
In the event of the bankruptcy of a commodity broker, the proposed
Amendment would benefit the customers of such commodity broker, by
providing them with the opportunity, under certain circumstances, to
manage their accounts prior to the transfer of such accounts to a new
commodity broker.
2. Efficiency and Competition
The proposed Amendment is not expected to have an effect on
efficiency or competition.
3. Financial Integrity of Futures Markets and Price Discovery
As mentioned above, the proposed Amendment will promote financial
integrity of the futures markets by providing customers of a commodity
broker in bankruptcy with the opportunity, under certain circumstances,
to manage their accounts prior to the transfer of such accounts to a
new commodity broker.
4. Sound Risk Management Practices
The proposed Amendment is not expected to have a direct effect on
the risk management practices of commodity brokers.
5. Other Public Considerations
Recent events, such as the Refco and Lehman proceedings, have
demonstrated that the proposed Amendment is necessary and prudent.
Accordingly, after considering the five factors enumerated in the
Act, the Commission has determined to propose the regulations set forth
below.
List of Subjects in 17 CFR Part 190
Bankruptcy, Brokers, Commodity futures.
For the reasons stated in the preamble, the Commission proposes to
amend 17 CFR part 190 as follows:
PART 190--BANKRUPTCY
1. The authority citation for Part 190 continues to read as
follows:
Authority: 7 U.S.C. 1a, 2, 4a, 6c, 6d, 6g, 7a, 12, 19, and 24,
and 11 U.S.C. 362, 546, 548, 556, and 761-766, unless otherwise
noted.
2. Add new paragraph (d)(3) to Sec. 190.04 to read as follows:
Sec. 190.04 Operation of the debtor's estate--general.
* * * * *
(d) * * *
(3) Exception to liquidation only. Notwithstanding paragraph (d)(2)
of this section, the trustee may, with the written permission of the
Commission, operate the business of the debtor in the ordinary course,
including the purchase or sale of new commodity contracts on behalf of
the customers of the debtor under appropriate circumstances, as
determined by the Commission.
* * * * *
Issued in Washington, DC, on December 9, 2009 by the Commission.
David A. Stawick,
Secretary of the Commission.
[FR Doc. E9-29730 Filed 12-15-09; 8:45 am]
Last Updated: December 16, 2009