Commodity Futures Trading Commission
Office of External Affairs
Three Lafayette Centre
1155 21st Street, NW
Washington, DC 20581
THE FUTURES MARKETS 2005:
INTEGRITY, ACCOUNTABILITY, AND COMPETITION
Address by Chairman Reuben Jeffery, III
U.S. Commodity Futures Trading Commission
• Law and Compliance Division of the
Futures Industry Association
• Futures Regulation Committee, Association of the
Bar of the City of New York
• Futures and Derivatives Law Committee of the
New York State Bar Association
Thank you, it is a pleasure for me to be here today.
And thank you for that generous introduction. While it is a privilege to serve as Chairman of the CFTC during this time of great challenge and opportunity, I don’t lead the agency single-handedly. Let me say at the outset that the CFTC relies on the leadership and judgment of all its Commissioners, and I want to publicly acknowledge the contributions of my outstanding fellow Commissioners Walt Lukken, Sharon Brown-Hruska, Fred Hatfield, and Mike Dunn.
The United States futures industry is thriving. Since 1995, global futures and futures options volume has risen more than six-fold -- today more than 6 billion contracts a year trade globally. We see a constant stream of new products, markets, clearing arrangements, intermediary services and technology not only in the United States but all over the world.
Competition is intense, as market users demand access to global products and sophisticated risk management services at the lowest cost possible. This dynamism is a source of strength, but it also brings a new set of challenges to the industry and regulators alike.
We now have a unique opportunity to make sure that as our markets change, they maintain and develop key components of continued market success. For our part at the CFTC, I want to focus today on three essential elements of our regulatory framework: first, a strong system of self-regulation; second, a vigorous enforcement program; and third, creating a regulatory environment that embraces competition and encourages innovation.
First, let’s address the system of self-regulation, which in no small measure has contributed to the success of the U.S. futures industry. Self-regulation is not a static concept. We have a responsibility to continually assess the system’s efficacy to make sure it achieves its primary mission and keeps pace with the changing needs of the marketplace.
At the most fundamental level, the goal of our self-regulatory framework is to protect the people who rely on the proper functioning of the futures markets – and today nearly everyone is affected by activity in these markets, whether they choose to participate in them or not. The price paid for goods across a range of industries -- heating oil being a prominent one -- is determined, in large measure, in the futures markets.
That goal -- to put the interests of the public first -- must remain paramount. The flexible, principles-based regulatory framework of the Commodity Futures Modernization Act places greater responsibility on the industry itself -- and all of you -- for attaining that goal. It is a system that relies not on prescriptive regulations, but on a commitment to ethics and professionalism that must be self-imposed and vigilantly monitored by the industry itself.
Having public trust and confidence in turn guarantees that the futures markets will continue to flourish. Once lost, trust is not easily reclaimed. While we are far from writing the final chapter on Refco, this incident is yet another reminder that reputation is fragile, and in building and maintaining the public’s confidence, there is no substitute for sound ethical judgment and strict accountability.
In the current market environment, questions have been raised about whether, and how, the self-regulatory model can continue to effectively serve the public interest. Concerns have been raised, for example, whether increasing competition and a shift to a for-profit model will diminish exchanges’ vigor in their approach to their self-regulatory obligations. Others express concern that the checks-and-balances in place in the current self-regulatory system may not adequately manage conflicts in an exchange, regardless of the ownership structure. Still others respond that the commercial interest of the exchanges in ensuring confidence in the integrity of their markets remains allied with the public interest, regardless of the form of organization.
These conflicts issues are not new to self-regulation. What is new is the extent and pace of change in the marketplace and the sense by market participants that we need to consider with fresh eyes the traditional assumptions in the self-regulatory model.
One of my priorities as Chairman of the CFTC is to complete our on-going work to reassess the state of self-regulation in the futures industry. As you know, the CFTC recently published a renewed request for comments on a broad range of SRO issues, including, among other things, the governance structure, market oversight programs, and disciplinary processes of the SROs.
Our goal is to have an open, healthy and constructive dialogue with the industry and other stakeholders on these issues. We look forward to your input in assuring that all the relevant issues and proposals are brought to the table.
Let me turn now to enforcement. Effective self-regulation, with appropriately calibrated government oversight, can prevent problems from arising in the first place. It should be no surprise that the second leg of our agenda is a vigorous enforcement program when problems do occur.
Markets function best when the rules are consistently and fairly enforced. Indeed, times of explosive market growth and innovation are precisely the times when enforcement may be most necessary.
Because market abuse that interferes with the price discovery process adversely affects all Americans, even those who are not trading, the CFTC has a zero-tolerance policy for those who engage in false reporting or other dishonest or manipulative conduct. The cornerstone of our continued vigilance in this area is the CFTC’s market surveillance system, which has been critical to our success in effectively monitoring the regulated futures markets to look for any indications of such abuse -- before they become a significant problem.
But when a real need for enforcement action arises, we will act resolutely. For example, following the investigation of widespread misconduct in the energy markets, the CFTC filed 32 enforcement actions charging some 50 defendants with attempted manipulation and false reporting in violation of the Act. These enforcement actions have thus far resulted in civil monetary penalties totaling nearly $300 million.
Of course, we also will never lose sight of another core enforcement priority: targeting those who take advantage of retail customers, the most vulnerable participants in the futures markets. And in this battle, the CFTC has been quite successful to date. For example, since the enactment of the CFMA, the Commission has prosecuted 325 companies and individuals on behalf of more than 23,000 retail customers based on illegal activity in off-exchange foreign currency transactions.
Cooperative enforcement has become even more critical to the Agency’s success in fighting domestic and international fraud and market abuse. Recently, the Commission signed a Memorandum of Understanding with the Federal Energy Regulatory Commission. This MOU will improve the process by which we exchange information concerning the energy markets and their participants.
In addition, CFTC membership in the President’s Corporate Fraud Task Force and numerous other regulatory sharing groups allows us to work and coordinate with other federal agencies and departments. The Commission has also entered into multilateral agreement with two dozen foreign regulators to share information essential to prosecuting illegal activity across multiple borders and jurisdictions. These cooperative enforcement measures, coupled with our collaboration with state and local authorities, offer us efficient ways to effectively track those who abuse the public trust and hold them accountable.
With an effective self-regulatory system in place and strict enforcement against those who break the rules, the CFTC and the industry can assure that competition takes place on a fair, open, and level playing field, and that competitive pressures do not put at risk market integrity or investor protection.
We must also help foster a market environment that invites competition and innovation -- which is the third element of the CFTC agenda.
In this regard, the CFMA has provided a firm foundation for us to build upon. Since late 2000 when the CFMA was adopted, the number of new products traded on U.S. exchanges has more than tripled. Eight new contract markets and nine new derivatives clearing organizations have been approved by the CFTC, and 17 exempt markets have filed notifications with the Commission. Electronic trading has soared from less than 10 percent of total volume of futures and options trading in 1998 to approximately 60 percent this year, and that percentage is increasing on a daily basis.
These changes in the futures markets reflect new competitive challenges, to be sure, but also new growth opportunities. Product innovation and the increasing use of technology offer the prospect of continued growth in the futures markets, in the form of new trading venues, new trading strategies, new risk management tools, and new customers.
For example, exchange-traded contract volumes are at all-time highs, notwithstanding that the over-the-counter markets for financial derivatives also are thriving. Far from being zero-sum competitors as many had feared, the OTC and exchange-traded derivatives markets are serving as natural complements to one another.
The same is true with respect to global competition. U.S. market volume continues to rise not in spite of global competition but because of it. In the first six months of this year, U.S. market volume rose on average by more than 25 percent. As many as 30 percent of reportable futures traders in U.S. futures markets are foreign traders. Funds held insecured accounts overseas rose from nearly $9 billionat the end of 2000 to over $26 billion last August.
In short, this intensified competition deepens and broadens the markets as a whole. Generally speaking, practices and structures which are anti-competitive tend not to be in anybody’s interests. That’s why the industry must keep a long and broad view of competition and change.
It is not the place of the CFTC to pick winners or losers. Nor is it our function to design or engineer the manner in which markets should respond to competitive pressures. As with all other free markets, innovation in the futures markets will draw out the best products, providers, and business methods.
However, it is the CFTC’s role to establish an environment that welcomes competition. A good example of this is the recent action by the CFTC to permit NYMEX and FCMs to commingle segregated and secured funds in connection with the clearing of NYMEX London contracts.
In addition, the CFTC has been working through the reauthorization process, and with our colleagues in the President’s Working Group on Financial Markets, to remove unnecessary obstacles confronting U.S. futures exchanges in their efforts to compete effectively. These include measures to allow the sale of futures on foreign equity indexes, and on broad-based debt security indexes, to U.S. customers. They also include proposals to allow futures-style portfolio margining for security futures products -- the benefits of which are well-known.
In the global arena, U.S. markets now have local hubs on every continent, and during the last year U.S. brokers have obtained the ability to do business through omnibus arrangements in many new jurisdictions.
The CFTC has long recognized the global nature of the markets -- and that competitive exposure promotes the kind of innovation that will help futures markets continue to grow as effective places to do business for all customers, no matter where their trades originate. Accordingly, we have – and will continue to play -- an active role in establishing regulatory linkages with foreign markets so U.S. participants can compete globally and on a level playing field.
In conclusion, the beauty of our regulatory framework is that it recognizes trust and confidence in the marketplace as something that industry must protect -- not because the law says it should, but because it is at the heart of the business itself. Placing public interest first is essential to building and keeping that trust and confidence.
This means: First, promoting a self-regulatory model that is transparent, efficient, and fair; second, vigorously pursuing those who fail to adhere to regulatory and ethical boundaries; and finally, recognizing the value of competition and innovation to our markets.
As the CFTC takes on these three challenges, there will always be a vigorous debate over whether we have achieved the right mix and level of industry flexibility and accountability.
In the months to come, we look forward to exchanging views with you as to how best to achieve the appropriate balance.
I would be happy to take your questions.