New NFA Rules Affecting "Swap Firms" and New CFTC Guidance on CPOs/CTAs Compliance Obligations

New NFA Rules effective September 1, 2012 mandate the registration of “Swaps Firms” and “Swaps APs” and provide an exemption from Series 3 for Swap APs

New rules adopted by the National Futures Association (“NFA”) became effective on September 1, 2012 after being submitted for approval to the Commodity Futures Trading Commission (“CFTC”). The rules require that CFTC-registered firms trading swaps become approved as “Swaps Firms” by the NFA.  All Associated Persons (“APs”) of such “Swaps Firms” must also be approved as “Swaps APs”. Swap Firms are required to have at least one of their principals registered as an AP and approved by the NFA as a Swaps AP.  Swap APs are not, however, required to take the Series 3 (see our previous communiqué on the registration of APs and the Series 3 requirement here).  This exemption from the Series 3 requirement available to Swaps APs also applies to Swaps APs of other firms that would meet the de minimis trading test under Rule 4.13(a)(3) but for the inclusion of swaps in the calculation of the applicable thresholds (for an explanation of the de minimis test, see our previous communiqué here - the test is also explained below).  The new NFA rules can be found here

New CFTC Guidance on Compliance Obligations of CPOs and CTAs

On August 14, 2012, the CFTC published FAQs related to the registration and compliance obligations of Commodity Pool Operators (“CPO”) and Commodity Trading Advisors (“CTA”s). These FAQs can be found here:

We summarize below some of the FAQs that we thought were of particular interest:

  1. Fund-of-funds. The CFTC confirmed that fund-of-funds can continue to rely on Appendix A to Part 4  of the CFTC regulations to determine whether they meet the “de minimis trading test” under exemption Rule 4(13)(a)(3) and Rule 4.5.  In general, fund-of-funds need to look through to the investments of the underlying funds when complying with the trading thresholds (see explanation of the thresholds below).  In 2003, the CFTC issued Appendix A to Part 4 of its regulations to provide guidance on this matter.  Last February, the CFTC eliminated Appendix A leaving fund-of-funds without guidance.  However, in its recently released FAQs, the CFTC indicated that CPOs of funds-of-funds may continue to rely on Appendix A until the CFTC adopts revised guidance.  Appendix A is attached here.
  2. Trading thresholds under exemptions provided by Rule 4(13)(a)(3) and Rule 4.5. As we previously wrote, (with link above) firms can be exempt from CFTC registration if one of the following two conditions is met, that is either (a) the aggregate initial margin and premiums required to establish a fund's positions in “commodity interests” will not exceed 5% of the liquidation value of the fund's portfolio (5% Trading Test); or (b) the aggregate net notional value of “commodity interests”, determined at the time the positions are established, does not exceed 100% of the liquidation value of the fund's portfolio (Net Notional Test). The FAQs posted clarify that firms will be required to include “swaps” in the calculation of “commodity interests” on December 31, 2012. Note that the definition of “swap” was adopted in July 2012 and published on August 13, 2012. It will become effective 60 days after its publication, i.e. by October 12, 2012. [1] Firms should include in their calculations of the thresholds all swaps they have entered into including those entered into prior to the effective date of the rule adopting the definition.  The FAQs also clarify that the “notional value” of swaps (both cleared and uncleared) is the amount reported by the counterparty as the notional value under Part 45 of the CFTC regulations. The  “liquidation value” of the pool’s portfolio includes all cash held by the pool.
  3. Withdrawal of Rule 4(13)(a)(4) exemption and timing of filing a Rule 4(13)(a)(3) exemption. A CPO must first submit a written request to the National Futures Association to withdraw the exemption under Rule 4.13(a)(4). The NFA will then contact the CPO when the exemption has been withdrawn. After the withdrawal is finalized, the CPO may file the new exemption under Rule 4.13(a)(3) electronically.
  4. Annual reports. CPOs do not need to file a 2012 annual report for pools that have their exemption under Rule 4.13(a)(4) withdrawn on January 1, 2013. CPOs registering as of January 1, 2013 will be required to file their first annual report for fiscal year 2013.
  5. Forms CPO-PQR and CTA-PR. The CFTC has not released guidance on these forms but will do so in the future. These new forms are the equivalent of Form PF for CPOs and CTAs.[2]  The CFTC believes that filers did not have the time to review the forms and submit requests for clarification. Prior to the issuance of any guidance, entities are entitled to make reasonable assumptions consistent with a good faith effort in executing their compliance obligations.

Note that the CFTC has established a deferred registration process whereby firms can start the registration process now but defer their registration until January 1, 2013 when the exemption under Rule 4.13(a)(4) will no longer be available.  The deferral is automatic unless a firm requests otherwise.  It is thus recommended that firms start the registration process as soon as possible to make sure that their application is processed on a timely basis.  APs of such firms can take the Series 3 during the deferral period and firms can request, at the same time, relief under Rule 4.7 (Rule 4.7 referred to as “Regulation Lite” provides relief, subject to conditions, from certain compliance obligations to commodity pools offered to “qualified eligible persons” which includes most pools that were previously operating under Rule 4.13(a)(4)). [3] As we previously wrote, all APs of a registered firm must hold Series 3 in order to discharge their duties lawfully (see our previous communiqué here). As mentioned above, APs that deal only with swaps as well as APs of firms that would be able to meet the de minimis trading test under Rule 4.13(a)(3) if swaps were not included in the calculation of the applicable thresholds were recently exempted from the obligation to take Series 3.

It is also important to note that the definition of a principal was recently changed to include anyone with the title of "Chief Compliance Officer".  This relates to all registration categories.  Therefore a CCO at any entity registered with the CFTC and NFA, including CPOs and CTAs must be listed as a principal of the firm on the entity’s registration form (i.e., Form 7-R). Note that all principals of a firm must be listed on the firm’s Form 7-R.

[1] The rule defining “swaps” can be found here and a CFTC Fact Sheet on the rule can be found here.

[2]The CFTC has adopted a new data collection and risk reporting rule that requires each CPO and CTA that is registered or required to register with the CFTC to file Forms CPO-PQR and CTA-PR, respectively. The rule became effective July 2, 2012 and can be found here:

(See in particular new CFTC Rule 4.27)

[3] The CFTC Guidance mentions that CFTC staff is working with the NFA to determine the appropriate mechanism to enable entities to claim relief under Rule 4.7 and register while deferring the effective date of such registration and exemption until January 1, 2013.


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