[Federal Register: August 31, 1999 (Volume 64, Number 168)]
[Proposed Rules]
[Page 47452-47461]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr31au99-46]
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COMMODITY FUTURES TRADING COMMISSION
17 CFR Parts 3 and 32
Trade Options on the Enumerated Agricultural Commodities
AGENCY: Commodity Futures Trading Commission.
ACTION: Proposed rulemaking.
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SUMMARY: In April 1998, the Commodity Futures Trading Commission
(Commission or CFTC) removed the prohibition on off-exchange trade
options on the enumerated agricultural commodities subject to a number
of regulatory requirements. The Commission has reconsidered several of
these requirements with a view toward streamlining regulatory or
paperwork burdens in order to increase agricultural trade option's
commercial utility while maintaining basic customer protections. In
particular, the Commission is proposing to streamline the registration
requirements for Agricultural Trade Option Merchants (ATOMs) and their
sales agents by, among other things, removing the training requirement
for associated persons and limiting the number of principals that must
certify that they are not subject to statutory disqualification from
registration. In addition, the Commission is proposing to permit cash
settlement and offset or cancellation of agricultural trade options, by
removing the requirement that such options, if exercised, must result
in physical delivery. The Commission is also proposing to eliminate the
currently required transaction-specific disclosure statement and to
revise the summary disclosure statement provided to customers when
opening an account. The Commission is proposing to streamline certain
reporting and recordkeeping requirements, as well.
DATES: Comments must be received by September 30, 1999.
ADDRESSES: Comments should be mailed to the Commodity Futures Trading
Commission, Three Lafayette Centre, 1155 21st Street, NW., Washington,
DC 20581, attention: Office of the Secretariat; transmitted by
facsimile at (202) 418-5521; or transmitted electronically at
[[email protected]]. Reference should be made to ``Agricultural Trade
Options.''
FOR FURTHER INFORMATION CONTACT: Paul M. Architzel, Chief Counsel,
Division of Economic Analysis, Commodity Futures Trading Commission,
Three Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581,
(202) 418-5260, or electronically at [[email protected]].
SUPPLEMENTARY INFORMATION:
I. Background
Generally, the offer or sale of commodity options is prohibited
except on designated contract markets. 17 CFR 32.11. One of several
specified exceptions to the general prohibition on off-exchange options
is for ``trade options.'' Trade options are off-exchange options
``offered by a person having a reasonable basis to believe that the
option is offered to'' a person or entity within the categories of
commercial users specified in the rule, where such commercial user ``is
offered or enters into the commodity option transaction solely for
purposes related to its business as such.'' 17 CFR 32.4(a). However,
this exception from the general ban on off-exchange options does not
apply to trade options on the agricultural commodities enumerated in
the Commodity Exchange Act (Act).\1\ 7 U.S.C. 1a(3).
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\1\ In 1936, responding to a history of large price movements
and disruptions in the futures markets attributed to speculative
trading in options, Congress completely prohibited the offer or
sales of option contracts both on and off exchange in the specific
list of agricultural commodities enumerated in the Act. After its
creation in 1974, the Commission promulgated a comprehensive
regulatory framework applicable to off-exchange commodity option
transactions in the non-enumerated commodities. This comprehensive
framework exempted ``trade options'' from most of its provisions
except for a rule prohibiting fraud (rule 32.9). In contrast, the
prohibition on the offer and sale of all options on the enumerated
agricultural commodities remained as a consequence of both statutory
provision and Commission rule. The statutory bar was repealed as
part of the Commission's reauthorization in 1982. Public Law No. 97-
444, 96 Stat. 2294, 2301 (1983). A full statement of the statutory
and regulatory history is provided in the notice of final rulemaking
promulgating the interim final rules. 63 FR 18821 (April 16, 1998).
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In April, 1998, the Commission promulgated interim final rules to
permit the trading of agricultural trade options subject to various
regulatory requirements. 63 FR 18821 (April 16, 1998). These
requirements were designed to provide a number of customer protections.
They included provisions for registration of ATOMs, disclosure of risks
to option buyers, financial safeguards, and recordkeeping. In addition,
option vendors were required to have a system of internal controls and
to report to the Commission on their option activity. The rules also
included a number of provisions to discourage the use of trade options
for speculative purposes. These included the requirement that
agricultural trade options, if exercised, be physically delivered, and
limitations on producers granting options, including prohibiting
producers from writing covered call options.
No one has applied for registration as an ATOM since the interim
rules went into effect in June, 1998. Reportedly, agricultural trade
options are being offered to some extent pursuant to the rules'
exemption for high net worth entities. However, because there are no
reporting requirements for options offered pursuant to the exemption,
the Commission cannot ascertain to what extent such options are being
traded between exempt entities.
The current lack of interest in offering these instruments could
well be a result of the current depressed prices for many
commodities.\2\ However, some observers have suggested a different
explanation for the lack of interest in these instruments. Various
agricultural groups have voiced concern that the interim
[[Page 47453]]
final rules are too onerous, thereby discouraging participation.
Particular concerns have been raised that the registration, reporting
and disclosure requirements are too burdensome and that certain of the
restrictions on the form of options that producers may enter into limit
their usefulness. These groups maintain that if the regulatory
requirements were relaxed agricultural trade options would be offered
more readily.
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\2\ In addition to low prices, lack of familiarity among many in
the agricultural sector with risk management techniques generally
and agricultural trade options, specifically, may also have hampered
development of demand for trade option products. To address this,
widespread educational efforts will be necessary to give producers a
better understanding of what the instruments are and how to use them
safely. To this end, the Commission recently released three
educational pamphlets on agricultural trade options prepared by its
Division of Economic Analysis. These pamphlets provide an overview
of agricultural trade options and the rules for trading them. The
first of these brochures, entitled ``Agricultural Trade Options--
What Agricultural Producers Need to Know,'' was issued in December
1998. This brochure acquaints agricultural producers with how they
can use agricultural trade options to manage risk. The second and
third brochures, issued in February 1999, summarize how to become an
agricultural trade option merchant and provide general information
to lenders and extension agents, respectively. They are entitled
``How to Become an Agricultural Trade Options Merchant,'' and
``Agricultural Trade Options--Information for Lenders and Extension
Agents.'' All three of these brochures are available on the
Commission's website.
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In issuing the interim final rules, the Commission noted that the
rules were an experiment and that the Commission ``has not foreclosed
reconsideration of any specific issue.'' 62 FR 18823. In this regard,
since the rules' promulgation, a number of groups have recommended the
the Commission reconsider various aspects of the current rules. The
Commission receives the views of a cross-section of the agricultural
sector through its Agricultural Advisory Committee (AAC). The AAC, at
its most recent meeting on April 21, 1999, heard presentations on the
agricultural trade option rules by representatives of the National
Grain and Feed Association (NGFA) and the National Introducing Brokers
Association. AAC members then engaged in a detailed discussion of
various possible rule alternatives and the policy issues that such
alternatives would raise. Subsequently, nine organizations representing
a broad cross-section of production agriculture submitted to the
Commission their common views on these issues by letter dated April 23,
1999.\3\
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\3\ These nine producer organizations include the: (1) American
Farm Bureau Federation, (2) National Association of Wheat Growers,
(3) National Corn Growers Association, (4) National Farmers Union;
(5) National Pork Producers, (6) American Soybean Association, (7)
National Cattlemen's Beef Association, (8) National Cotton Council
of America, and (9) National Grain Sorghum Producers.
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The dialogue over the interm final rules has not resulted in a
unified industry-wide view on recommended changes to those rules.
Nevertheless, seven letters were submitted to the Commission
recommending various changes. These include the April 23 letter from
the nine producer organizations, a letter dated April 19, 1999 from the
Farm Credit Council, a letter dated April 21, 1999, from the Illinois
Farm Bureau, a letter dated June 15, 1999, from the NGFA, a letter
dated June 16, 1999, from the Chicago Board of Trade (CBT), a letter
dated July 9, 1999, from the National Grain Sorghum Producers and a
letter dated August 9, 1999, from the American Farm Bureau Federation,
the National Association of What Growers, the American Soybean
Association and the National Farmers Union.\4\ Based in part on the
various views expressed in these letters, the Commission is proposing a
number of revisions to the interim final rules.
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\4\ In addition, various views concerning the interim final
rules were expressed by participants in the United States Senate
Agriculture, Nutrition and Forestry Committee's (Senate Agriculture
Committee) roundtable to discuss futures, derivatives and related
public policy issues held on February 25 and 26, 1999 and by
witnesses at the committee's hearings to examine crop insurance and
risk management strategies held on March 10 and 17, 1999.
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II. Proposed Revisions to the Agricultural Trade Option Rules
The Commission has reconsidered a number of the requirements of the
agricultural trade option rules with a view toward maintaining their
basic customer protection while increasing the commercial utility of
the instruments or trading strategies permitted and streamlining
regulatory or paperwork burdens. The Commission specifically revisited
the particular rules relating to the registration requirements and
procedures for ATOMs and their sales agents (associated persons or
APs), whether physical delivery should be required upon exercise of the
option, whether producers should be able to write call options, whether
a different form of risk disclosure would be more appropriate and
whether the $10 million exemptive level should be changed. The
Commission also considered a number of additional revisions to reduce
paperwork and reporting burdens or to bring certain contracting
requirements into closer alignment with certain cash market practice.
An analysis of each of these issues follows.
A. Registration
The requirement that all market professions be registered, and the
authority to approve or revoke registrations, is an important means of
policing conduct in a market. The requirement that market professionals
be registered gives the Commission an important tool for protecting
customers. Registration of market professionals helps assure customers
of the registrant's probity, and a testing or training requirement
helps ensure a minimum level of competency. Every commodity
professional, unless excluded or exempted, that deals with a member of
the public is required to be registered with the Commission.
As part of these customer protections, section 14 of the Act
provides that ``any person complaining of any violation of any
provision of this Act or any rule . . . issued pursuant to this Act by
any person who is registered under this Act'' may bring a reparations
action therefore the Commission. Accordingly, complaints that do not
relate to violations of the Act or Commission rules are not subject to
Commission reparations proceedings. A dispute arising solely out of a
cash market transaction, therefore, would be dismissed and not be heard
the Commission. See 17 CFR 12.26.
By long-standing rule (17 CFR 180.3(b)(3)), the Commission does not
permit a customer to waive the right to seek reparations through a
predisute arbitration agreement. However, if the customer declines to
institute reparations proceedings, the claim or grievance is subject to
such a preexisting arbitration agreement.
NGFA, in particular, supports an alternative means of qualification
to offer or solicit agricultural trade options short of registration so
that its members would not be subject to the Commission's reparations
authority. NGFA provides an arbitration service to resolve cash grain
contract disputes involving its members, and supports its members'
right to require customers through account opening agreements to use
NGFA arbitration as the sole means to resolve disputes involving
agricultural trade options. In contrast, several producer organizations
support the registration requirement as a means ``to protect customers
and reduce the likelihood that unscrupulous individuals will qualify as
agricultural trade options merchants'' preferring that ``a full range
of dispute resolution options . . . remain available to contract
participants ranging from arbitration under industry trade rules to
CFTC reparations actions.'' See letter of April 23. See also letters of
July 9 and August 9, 1999.
It appears that there may be substantial public support for a
registration requirement, both because of the higher level of customer
protection it provides, and a desire to have available the Commission's
reparations forum for dispute resolution. Although some sectors of
agriculture may have well-regarded industry arbitration fora available,
many do not. For these sectors, reparations may be the only readily
available non-judicial avenue for dispute resolution. Accordingly, the
Commission is retaining the registration requirement at this time.
However, the Commission certainly would consider deleting the
registration requirement in favor of a simple notification filing
stating one's intent to enter into the trade option business if that
alternative is preferred by those whom the regulations are
[[Page 47454]]
intended to protect. The Commission specifically invites comments on
whether the registration requirement should be retained. \5\
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\5\ The Commission is also proposing to clarify the
enforceability of pre-dispute arbitration clauses for agricultural
trade options and the procedures by which customers can waive their
right to use Commission reparations procedures to resolve disputes
with an ATOM by incorporating into these rules streamlined
procedures similar to those included in Commission Rule 180.3(b)
which are applicable to other commodity professionals.
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Despite this fundamental disagreement over whether registration
should be required, there is broad agreement that the registration
procedures for ATOMs and their sales agents be streamlined and simple.
Unlike other categories of registrants, under current rules an ATOM's
principals and sales agents need not provide fingerprints or pass a
proficiency test. In other respects the registration requirements are
similar to those for other Commission registrants, including processing
of registration applications by the National Futures Association (NFA),
the requirement that each applicant certify that it is not disqualified
from engaging in a commodity-related business under the statutory
disqualification provisions of sections 8a(2) or 8a(3) of the Act and
the requirement that an ATOM certify that, to the best of its
knowledge, each of its associated persons meets the final rules'
registration requirements. Those seeking registration as associated
persons are required to complete six hours of instruction in the
requirements of the Act and the rules thereunder, the economic
functioning and risks of agricultural trade options, and the
registrant's responsibility to observe just and equitable principles of
trade relating to such options.
The Commission is proposing to streamline registration of ATOMs and
their APs by removing the requirement that ATOMs separately certify the
truth of their principal's and APs' applications. The Commission also
proposes to limit the principals required to file as part of an ATOM's
application to those principals who exercise direct control over the
ATOM's business affairs. For an ATOM that is part of a larger
agribusiness, this should greatly lessen the number of principals who
are required to file. This is because, unlike financial service
companies that commonly use a holding company structure, many companies
engaged in agriculture are structured as unitary corporations with
separate operating divisions, potentially increasing the number of
principals within the organization.
The Commission is also proposing to delete the mandatory six hour
training course for sales agents. The offer or sale of agricultural
trade options is not expected to be the primary commercial activity for
many, if not most ATOMs, increasing the relative burden of the
mandatory training requirement. Instead, each ATOM would decide the
amount and nature of training it will require of its sales agents,
presumably based upon the nature of its trade option business.
In addition, paperwork associated with the registration process
could be streamlined by deleting the requirement that ATOMs notify the
Commission when an associated person leaves its employ and a new
associated person begins. Because many ATOMs may employ individuals
well-known in their local communities, such filings may be less
necessary. On the other hand, staff turnover at such locations would
tend to be low, reducing the burden of filing updates on affiliated
staff. Some ATOMs may employ widely dispersed sales forces and may
prefer to have a means of providing public notice of their officially
authorized sales agents through such updates. Accordingly, the
Commission is not now proposing to delete the requirement that ATOMs
notify the NFA when an associated person leaves its employ or is hired.
However, it specifically requests commenters to address the relative
burden and benefits of this requirement.
Finally, NGFA, in particular, suggests that the Commission directly
process applications for registration as an ATOM or an AP of an ATOM,
an administrative task that the interim final rules delegate to the
National Futures Association. 17 CFR 3.13(e). NGFA suggests that, ``it
is inappropriate to involve the NFA in any form of `registration'
process. . . . The NFA is a self-regulatory agency for futures, not
cash markets.'' However, the interim final rules strictly limit NFA's
role. NFA does not become a self-regulatory authority for ATOMs simply
by administratively processing their registration applications on the
Commission's behalf. NFA exercises no regulatory authority over the
offer or sale of agricultural trade options by ATOMs as a consequence
of that administrative function, nor do ATOMs or their APs thereby
become members of NFA.\6\
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\6\ This is similar to floor brokers and floor traders, whose
registration applications are processed by NFA but who do not become
NFA members and are not regulated by NFA. Rather, they are generally
governed by the exchanges that have granted them trading privileges.
Moreover, NFA arbitration is only available for the resolution
of disputes involving NFA members. Accordingly, NFA arbitration
would not be available to ATOMs and their customers.
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Moreover, the Commission faces a number of challenges in directly
processing applications for registration of ATOMs and their APs. The
Commission completely transferred this administrative function to NFA
during the 1980s and no longer has systems in place to process this
type of registration application. Accordingly, the Commission would
have to rebuild this capability from the ground up before it could
begin reviewing and approving registrations once again. Moreover,
rebuilding such administrative systems would, in the short-run, compete
for technical resources that are being devoted to Y2K compliance. In
contrast, NFA can process these additional categories of registrants
with only minor changes to its existing systems.
In light of the above, the Commission requests comment on the
possible benefits to ATOMs, their APs or potential customers from the
Commission's direct processing of registration applications, and the
relative cost of such a proposal, including the indirect costs caused
by the increased implementation time needed by the Commission to
reestablish this administrative capability.
B. Physical Delivery
The interim rules prohibit agricultural trade options from being
off-set, and require that if exercised, agricultural trade options
result in physical delivery of the underlying commodity. The interim
rules, however, permit substitution of a forward contract agreement
prior to the option's expiration. Commission Rule 32.13(a)(3). This
provision, by requiring agricultural trade options explicitly to serve
a merchandising function, helps assure a close relationship between the
agricultural trade option transaction and the producer's cash market
activities. It also helps to assure that such options would be
transacted between those having pre-existing cash market relationships
and that their functioning would likely be easily understood. See, 63
FR at 59627.
Support is widespread among all sectors of agriculture for some
permitted types of cash settlement, offset or cancellation of
agricultural trade options.\7\ The bar on cash settlement/
[[Page 47455]]
offset was adopted, in part, to discourage speculative use of
agricultural trade options by purchasers and as a means of limiting
vendors to entities with a strong, on-going connection to the cash
markets. On the other hand, observers have suggested many situations
when cash settlement/offset would be consistent with sound business
practice, such as when hail wipes out a producer's ability to deliver
on an option having time-value remaining or when localized conditions
may make delivery at an alternate location relatively more attractive.
Others have suggested that more highly engineered option products can
be offered only if cash-settlement is permitted.
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\7\ Unlike forward contracts which are commercial, merchandizing
transactions resulting in delivery, options can be settled in a
number of ways. For example, various exchange-traded options may be
settled through the delivery of a futures position, delivery of a
commodity such as gold, or the payment of the option's value based
upon a reference price such as the London gold fix. Cash settlement
of a trade option differs from physical delivery on the option in
that the option's holder, upon exercise, is paid the option's value
rather than delivering the commodity at the strike price specified
in the option contract.
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Some observers have suggested that the Commission permit cash
settlement/offset of agricultural trade options only as a one-time
alternative to delivery. Although such a requirement would discourage
speculation, it could be easily evaded simply by establishing a new
option position with a second vendor or by identifying a new option as
covering additional production capacity. In light of the obvious
enforcement difficulties in enforcing a one-time cash-settlement rule
and the likelihood that other regulatory provisions, such as the
registration of ATOMs and the requirement that ATOMs be commercials, to
some degree would discourage unscrupulous entities from offering, and
purchasers from buying, agricultural trade options merely for
speculative purposes, the Commission is proposing simply to remove the
requirement that agricultural trade options, if exercised, result in
physical delivery.\8\
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\8\ Although Rule 32.13(a) requires that an ATOM be a commercial
involved in the production, processing or handling of the underlying
commodity, the interim final rules did not limit eligibility to
become an ATOM to a commodity's first handler. Nevertheless,
permitting cash settlement likely will enable a greater variety of
commercial enterprises engaged in agriculture to offer these
contracts. The Commission therefore is proposing to clarify that
eligible commercial enterprises include those selling inputs used in
the production of the commodity as well as banks that routinely
finance businesses involved in the production, processing or
handling of the commodity.
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However, the Commission is proposing to require ATOMs to provide
customers with an account statement following the termination,
cancellation, cash settlement or amendment of an option's expiration
date (rolling the contract). Customers could have expected to have
their accounts settled upon physical delivery, and this proposed
requirement will ensure that customers who cash settle their contracts
are provided with similar information.\9\ Moreover, by receiving an
accounting and knowing with certainty the outcome of their closed
position, customers should better be able to ascertain the potential
outcome of entering into a subsequent transaction. In addition, the
Disclosure Statement continues to advise potential purchasers that
trade options are required to have a business purpose and are not to be
used for speculation.
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\9\ For example, if a customer initially purchases an option for
$1000 and later offsets that option by selling the option back to
the ATOM for $500, the customer will have to be notified that the
purchase and resale of the option netted a $500 loss. This rule
would have the effect of keeping customers informed of any losses
incurred on option trades and discourage them from ``speculating on
account.''
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C. Risk Disclosure, Customer Account Information and Reports to the
Commission
The interim final rules mandate that customers be provided with
both a general, summary disclosure statement upon opening an account
and transaction-specific disclosures before entering into a specific
transaction. Commission Rules 32.13(a) (7) and (8). The transaction-
specific disclosure includes information relating to the specific terms
of a particular transaction. The ATOM is required to disclose the
customer's worst possible financial outcome when the option premium is
not collected up front or when an option contract is amended.
There is general agreement among representatives of both potential
vendors and customers that the risk disclosure mandated by the interim
final rules should be streamlined and made administratively simpler by
eliminating the transaction-specific disclosure statement. Many of the
transaction-specific disclosures could be made in the summary
disclosure statement. Others may be readily ascertainable from the face
of the option contract itself. The CBT suggested that the existing
statement regarding the availability of exchange-traded options
offering greater regulatory and financial protections be enhanced to
state explicitly that the trade option is not guaranteed in any way by
a contract market.
The Commission is proposing to eliminate the transaction-specific
disclosure statement and to revise the summary disclosure to include
some of the deleted material. For example, the Commission is proposing
to add a paragraph to the summary disclosure statement advising
customers to understand each option's procedure for exercise, time of
expiration, cost (including the amount of, and method of paying, the
premium) and associated fees. In addition, as noted above, the
Commission is proposing that before the expiration date of a contract
is amended the customer be given a current account statement. This is
in lieu of the worst-case outcome disclosure which is currently
required. A current account statement will provide the information
necessary for the customer to determine the possible financial outcome
resulting from the contract's amendment.
In addition, the Commission is proposing to amend the requirements
relating to reporting of account information to customers. A number of
sources, including several state-level representatives of producers and
commodity first-handlers, suggested that the requirements that ATOMs
provide customers with account-related information potentially created
too great a paperwork burden for smaller firms. Specifically, Rule
32.13(b) requires ATOMs to provide customers with written confirmation
of contracts within 24 hours of execution and within 48 hours of a
customer request, a written response regarding the customer's account
or position. In addition, ATOMs are required to notify customers in
writing of an option's expiration within the coming calendar month.
This requirement was intended to assist customers in managing their
option positions and, in particular, to ``provide customers with notice
sufficient to reduce the occasions on which customers permit in-the-
money options to expire due to inattention.'' 63 FR 18828.
Representatives of agricultural organizations opined that many of
the required writings would be required during harvest time, when
smaller businesses, including producers, would prefer the immediacy of
telephonic communication over written notice. Accordingly, the
Commission is proposing to increase the ATOM's flexibility in meeting
these requirements by permitting oral communications and notice to
customers.\10\
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\10\ The Commission also is proposing to delete the requirement
that the ATOM provide the option purchaser with a separate written
confirmation. Elsewhere, the Commission is requiring that an
executed copy of the written contract or a written confirmation of
oral contracts be provided to the customer. Accordingly, a separate
confirmation is redundant.
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[[Page 47456]]
Similarly, some have observed that oral contracting is still the
prevailing means of transacting business in certain agricultural cash
markets, and they suggests that the interim rules, which require
agricultural trade option contracts to be written, should be amended to
reflect that reality. In this regard, state law has recognized this
practice by recognizing the validity of such oral contracts when they
have been confirmed in writing. The Commission is proposing to amended
its rules to recognize this practice. However in doing so, the
Commission is requiring that the written confirmation, which must be
signed by the ATOM, include all material terms of the option contract.
In this way, option contracts can be made over the telephone, as are
cash forward contracts, and both ATOMs and customers will be certain of
the contract's terms, thereby reducing potential disputes between the
parties over vaguely defined contract terms.\11\
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\11\ As the Commission explained in its notice of proposed
rulemaking, the ``lack of written terms and conditions in [hedge-to-
arrive] contracts led to widespread disagreement among parties over
the terms of the instruments, complicating the resolution of various
issues.''
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In addition, there has been widespread support among agricultural
groups for reducing ATOMs' required reports. The interim rules require
ATOMs to file reports on volume and open interest four times a year
with the NFA. Many claim that such a filing requirement would be
onerous on small ATOMs that do not have staffs dedicated only to back
office operations. In this regard, they note that one of the quarterly
filings would be due during harvest, a time when smaller business are
stretched thin and may have no available staff to compile such a
report. They further maintain that lacking programming support, such
reports would often have to be compiled manually. In addition, they
prefer that such reports be filed with the Commission rather than the
NFA, an organization in which they are not members. The Commission is
proposing to reduce periodic reporting to one annual report, filed by
the ATOM with the Commission within 90 days of the end of its fiscal
year.\12\ In that way, the report can be generated as one more step in
the year-end closing of an ATOM's routine business accounts.
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\12\ Unlike the processing of registrations which has been
delegated to the NFA and for which the Commission has no existing
systems capability, the Commission has an extensive reporting system
on which to build this reporting requirement. Accordingly, it would
not be an undue or an unreasonable administrative burden for the
Commission to undertake direct administration of the reporting
requirement. Moreover, the Commission and not the NFA would be the
primary user of the information reported. For these reasons, the
Commission is proposing to revise the requirement to provide that
ATOMs file their annual reports directly with the Commission.
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This yearly report obviously will provide the Commission with less
information. However, it will provide an overall picture of the
industry over time. Moreover, the Commission is retaining authority to
obtain information as needed for regulatory purposes through
inspections of the books and records of a particular firm, as needed.
In addition, the Commission will likely conduct a market-wide survey,
by special call, in order to evaluate the success of the rules. The
information that would be required in a special call is specified in
the rules.\13\
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\13\ The Commission is also proposing to revise the requirement
that, except for funds used to purchase exchange-traded contracts as
cover, ATOMs keep in segregation 100% of customer funds paid up
front. In its rules governing the off or sale of dealer options,
another type of over-the-counter option, the Commission required the
option grantor to hold not less than 90% of funds paid by a customer
in segregation (17 CFR 32.6(a)). The Commission is proposing to
apply that practice to agricultural trade options, as well. This
will provide ATOMs greater flexibility in structuring their
business.
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D. Required Contract Terms and Limitations on Certain Strategies
As noted above, one cause of a number of disputes involving hedge-
to-arive contracts was inadequate of vague contract specifications. To
avoid a similar problem with agricultural trade options, Commission
Rule 32.13(a)(6) requires that an agricultural trade option specify a
number of contract terms, including the procedure for exercise, the
expiration date and latest time on that date for exercise; the strike
price; the total quantity of the commodity underlying the option; the
quality or grade of commodity to be delivered if the option is
exercised and any adjustments to price for deviations from stated
quality or grade, or the range of, and a statement of the method for
calculating such adjustments; the delivery location; the elements
comprising the purchase price to be charged, including the premium,
mark-ups on the premium, costs, fees and other charges; and additional
costs, if any, which may be incurred if the commodity option is
exercised. Commission Rule 32.13(a)(6)(i)-(vii). These terms would be
expected to be found in any fully-specified physical delivery option
contract.
However, representatives of some agricultural first handlers have
objected to these requirements, arguing that they are overly
restrictive, reducing an ATOM's ability to engineer instruments that
offer greater flexibility to producers. One example given is the
requirement that the option specify a delivery location and adjustments
from par value. Although it is not clear to what degree these
requirements actually would restrict an ATOM's design creativity, the
current rules would have to be amended substantially to make conforming
changes providing for cash settled options. Accordingly, and in light
of the fact that even in the absence of the current rule options would
ordinarily include the above terms, the Commission is proposing to
delete this rule as a separate design requirement on ATOMS. Instead,
the Commission is proposing to include in the Disclosure Document a
statement that option customers should be sure that the contract
includes, and that the customer understands the operation of, all of
the above contract provisions.
Another common source of dispute involving hedge-to-arrive
contracts involved situations where customers were the grantors or
writers of call options. In return for the premium income paid to
enhance their current grain prices, customers granted elevators the
right to demand delivery in the future of grain that the producer did
not yet own. Many producers entering into these transactions appear not
to have fully understood the transaction's risk. Accordingly, the
interim rules permit call writing by producers only to the extent the
written call is paired with a purchased or long put option in a window
or fence strategy. Some observers have suggested that producers, if
they desire, should be able to grant or write call options if the
position is covered by expected production. However, this position is
not riskless. For example, if the producer suffers a production
shortfall or loss, the producer's liability could be significant. For
this reason, many of the producer representatives opposed changing the
interim rules in this respect. The Commission, therefore, is not now
proposing to change the prohibition against writing covered calls. In
taking this position, the Commission is not ruling out its
reconsideration after producers have had an opportunity to gain
experience generally with the offer and sale of trade options.
E. Exemption Level for Sophisticated Entities
The interim rules exempt transactions in which each party to the
option contract has a net worth of not less than $10 million from
compliance with all of the specific conditions for trading agricultural
trade options. Commission
[[Page 47457]]
Rule 32.13(g). The Commission determined that the exemption should
apply only to those entities with a very high net worth and that a
greater level of regulatory protection was appropriate for transactions
involving less well-financed entities. In particular, the Commission
was of the view that ``only the larger and better financed entities
will consistently have available the legal and financial resources
needed to protect their interests in an unregulated environment.'' 62
FR 59634.
While some in the agricultural community support lowering the
exemption level, others oppose a lower exemption or even any exemption
at all. NGFA, in particular, has argued that a lower exemption level
``. . . would permit greater creativity to the market to more
thoroughly assess what forms of agricultural trade options are most
likely to be useful and successful for both buyers and sellers'' and
``. . . would permit wholesale, or secondary markets for certain forms
of agricultural trade options to develop.'' See letter of June 15,
1999. Those opposing a lower exemption level fear that a lower
exemption level ``will create a competitive inequity across the
merchandizing sector.'' These organizations instead favor increasing
participation in regulated transactions by making them more user-
friendly through the across-the-board revisions that the Commission is
proposing. In light of the lack of consensus to lower the exemption
level and the very broad changes to the rules being proposed, the
Commission is not proposing to reduce the current exemption level.
III. Other Matters
A. Paperwork Reduction Act (PRA)
When publishing proposed rules, the PRA of 1995 (Pub. L. 104-13
(May 13, 1996)) imposes certain requirements on federal agencies
(including the Commission) in connection with their conducting or
sponsoring any collection of information as defined by the PRA. In
compliance with the Act, the Commission, through this rule proposal,
solicits comments to: (1) Evaluate whether the proposed collection of
information is necessary for the proper performance of the functions of
the agency, including the validity of the methodology and assumptions
used. (2) Evaluate the accuracy of the agency's estimate of the burden
of the proposed collection of information including the validity of the
methodology and assumptions used. (3) Enhance the quality, utility, and
clarity of the information to be collected. (4) Minimize the burden of
the collection of the information on those who are to respond,
including through the use of appropriate automated, electronic,
mechanical, or other technological collection techniques or other forms
of information technology; e.g., permitting electronic submission of
responses. The Commission has previously received approval from OMB for
the collection of information related to off-exchange agricultural
trade options, which OMB designated as information collection 2028-
0048. The approved burden associated with 3038-0048 is as follows:
Average burden hours per response: 5.420.
Number of respondents per year: 3,610.
Frequency of response: Quarterly and on occasion.
The Commission has submitted the proposed agricultural trade
options rules and amendments of OMB for approval. The proposed rules
would change the burden as follows:
Average burden hours per response: 5.59.
Number of respondents per year: 3,605.
Frequency of response: Annually and on occasion.
Persons wishing to comment on the information that would be
required by this proposed/amended rule should contact the Desk Officer,
CFTC, Office of Management and Budget, Room 10202, NEOB, Washington, DC
20503, (202) 395-7340. Copies of the information collection submission
to OMB are available from the CFTC Clearance Officer, 1155 21st Street,
NW, Washington, DC 20581, (202) 418-5160.
B. Regulatory Flexibility Act (RFA)
The RFA, 5 U.S.C. 601 et seq., requires that agencies, in proposing
rules, consider the impact of those rules on small businesses. The
Commission has not previously determined whether all or some
agricultural trade option merchants should be considered ``small
entities'' for purposes of the RFA and, if so, to analyze the economic
impact on such entities. However, the Commission is proposing that one
of the conditions for registration as an agricultural trade option
merchant is maintenance of a minimum level of net worth. The Commission
previously found that other entities which were required to maintain
minimum levels of net capital were not small entities for purposes of
the RFA. See, 47 FR 18618, 18619 (April 30, 1982).
The Commission has also found, however, that one category of
Commission registrant--introducing brokers (IBs)--which is required to
maintain a minimum level of net capital, may include small entities for
purposes of the RFA. Nevertheless, in addition to the $50,000 minimum
net worth required for registration as an agricultural trade option
merchant, such registrants must be in business in the underlying cash
commodity. This will require that they have additional resources
invested in order to qualify as an agricultural trade option merchant,
in contrast to an IB whose additional investment beyond the minimum net
capital may be relatively small. For this reason, the Commission
believes that agricultural trade option merchants are more
appropriately treated as not being small entities under the RFA.
The Chairman, on behalf of the Commission, hereby certifies,
pursuant to 5 U.S.C. 605(b), that the action taken herein will not have
a significant economic impact on a substantial number of small
entities. This certification is based on the fact that the proposed
rules will revise rules removing a complete ban on the offer or sale of
trade options on the agricultural commodities enumerated under the Act.
The proposed rules permitting such transactions subject to the
specified conditions therefore remove a burden for all entities,
regardless of size.
List of Subjects
17 CFR Part 3
Administrative practice and procedure, Brokers, Commodity futures.
17 CFR Part 32
Commodity futures, Commodity options, Prohibited transactions,
Trade options.
In consideration of the foregoing, and pursuant to the authority
contained in the Act, and in particular sections 2(a)(1)(A), 4c, and
8a, 7 U.S.C. 2, 6c, and 12A, as amended, the Commission hereby proposes
to amend parts 3 and 32 of chapter I of title 17 of the Code of Federal
Regulations as follows:
PART 3--REGISTRATION
1. The authority citation for part 3 continues to read as follows:
Authority: 7 U.S.C. 1a, 2, 4, 4a, 6, 6b, 6c, 6e, 6f, 6g, 6h, 6i,
6k, 6m, 6n, 6o, 6p, 8, 9, 9a, 12, 12a, 13b, 13c, 16a, 18, 19, 21,
23; 5 U.S.C. 552, 552b.
2. Section 3.13 is proposed to be revised to read as follows:
Sec. 3.13 Registration of agricultural trade option merchants and
their associated persons.
(a) Definitions. (1) Agricultural trade option merchant.
``Agricultural trade option merchant'' means any person that is in the
business of soliciting,
[[Page 47458]]
offering to enter into, entering into, confirming the execution of, or
maintaining a position in, transactions or agreements in interstate
commerce which are not conducted or executed on or subject to the rules
of a contract market, and which are or are held out to be of the
character of, or are commonly known to the trade as, an ``option,''
``privilege,'' ``indemnity,'' ``bid,'' ``offer,'' ``put,'' ``call,''
``advance guarantee,'' or ``decline guarantee,'' involving wheat,
cotton, rice, corn, oats, barley, rye, flaxseed, grain sorghums, mill
feeds, butter, eggs, solanum tuberosum (Irish potatoes), wool, wool
tops, fats and oils (including lard, tallow, cottonseed oil, peanut
oil, soybean oil and all other fats and oils), cottonseed meal,
cottonseed, peanuts, soybeans, soybean meal, livestock, livestock
products, and frozen concentrated orange juice. Provided, however, that
any person entering into such transactions solely for the purpose of
managing the risk arising from the conduct of his or her own commercial
enterprise is not considered to be in the business described in this
paragraph.
(2) Associated person of an agricultural trade option merchant.
``Associated person of an agricultural trade option merchant'' means a
partner, employee, or agent (or any person occupying a similar status
or performing similar functions) that:
(i) Solicits or accepts customers' orders (other than in a clerical
capacity) or
(ii) Supervises any person or persons so engaged.
(b) Registration required. It shall be unlawful for any person in
the business of soliciting, offering or selling the instruments listed
in Sec. 32.2 of this chapter to solicit, to offer to enter into, or to
enter into, to confirm the execution of, or to maintain transactions in
such instruments or to supervise persons so engaged except if
registered as an agricultural trade option merchant or as an associated
person of such a registered agricultural trade option merchant under
this section.
(c) Duration of registration. (1) A person registered in accordance
with the provisions of this section shall continue to be registered
until the revocation or withdrawal of registration.
(2) Agricultural trade option merchants must notify the National
Futures Association within twenty days when an associated person has
ceased to be so associated.
(3) An associated person who ceases to be associated with a
registered agricultural trade option merchant is prohibited from
engaging in activities requiring registration under Sec. 32.13 of this
chapter or representing himself or herself to be a registrant until:
(i) A registered agricultural trade option merchant notifies the
National Futures Association of the person's association; and
(ii) The associated person certifies to the National Futures
Association that he or she is not disqualified from registration for
the reasons listed in section 8a (2) and (3) of the Act; Provided,
however, no such certification is required when the associated person
becomes associated with the new agricultural trade option merchant
within ninety days from when the associated person ceased the previous
association.
(d) Conditions for registration. (1) Applicants for registration as
an agricultural trade option merchant must meet the following
conditions:
(i) The agricultural trade option merchant must have and maintain
at all times net worth of at least $50,000 computed in accordance with
generally accepted accounting principles;
(ii) The agricultural trade option merchant must identify each of
the natural persons who controls or directs the offer or sale of trade
options or associated trading activity by the agricultural trade option
merchant or who supervises any associated person of the agricultural
trade option merchant and each such natural person must certify that he
or she is not disqualified from registration for the reasons listed in
sections 8a(2) and (3) of the Act; and
(iii) The agricultural trade option merchant must provide access to
any representative of the Commission of the U.S. Department of Justice
for the purpose of inspecting books and records.
(2) Applicants for registration as an associated person of an
agricultural trade option merchant must meet the following conditions.
Such persons must:
(i) Identify the agricultural trade option merchant with whom the
person is associated or to be associated within thirty days of the
person's registration; and
(ii) Certify that he or she is not disqualified from registration
for the reasons listed in sections 8a(2) and (3) of the Act.
(e) Applications for registration. (1) The agricultural trade
option merchant, including its principals, and associated persons of an
agricultural trade option merchant must apply for registration on the
appropriate forms specified by the National Futures Association and
approved by the Commission, in accordance with the instructions
thereto, including the separate certifications from each natural person
that he or she is not disqualified for any of the reasons listed in
sections 8a(2) and (3) of the Act and such other identifying background
information as may be specified.
(2) The agricultural trade option merchant's application must also
include its most recent annual financial statements certified by an
independent certified public accountant in accordance with generally
accepted auditing standards prepared within the prior 12 months.
(3) These applications must be supplemented to include any changes
in the information required to be provided thereon on a form specified
by the National Futures Association and approved by the Commission.
(f) Withdrawal of application for registration; denial, suspension
and revocation of registration. The provisions of Secs. 3.51, 3.55,
3.56 and 3.60 shall apply to applicants for registration and
registrants as agricultural trade options merchants and their
associated persons under this part 3 as though they were an applicant
or registrant in any capacity under the Act.
(g) Withdrawal from registration. An agricultural trade option
merchant that has ceased or has not commenced engaging in activities
requiring registration may withdraw from registration 30 days after
notifying the National Futures Association on the specified form of its
intent to do so, unless otherwise notified by the Commission. Such a
withdrawal notification must include information identifying the
location of, and the custodian authorized to release, the agricultural
trade option merchant's records, a statement of the disposition of
customer positions, cash balances, securities or other property and a
statement that no obligations to customers arising from agricultural
trade options remain outstanding.
(h) Dual registration of associated persons. An associated person
of an agricultural trade option merchant may be associated with other
registrants subject to the provision of Sec. 3.12(f).
3. Section 3.14 is proposed to be removed and reserved.
PART 32--REGULATION OF COMMODITY OPTION TRANSACTIONS
4. The authority citation for part 32 continues to read as follows:
Authority: 7 U.S.C. 2, 6c and 12a.
5. Section 32.2 is republished for the convenience of the reader:
[[Page 47459]]
Sec. 32.2 Prohibited transactions.
Notwithstanding the provisions of Sec. 32.11, no person may offer
to enter into, confirm the execution of, or maintain a position in, any
transaction in interstate commerce involving wheat, cotton, rice, corn,
oats, barley, rye, flaxseed, grain sorghums, mill feeds, butter, eggs,
solanum tuberosum (Irish potatoes), wool, wool tops, fats and oils
(including lard, tallow, cottonseed oil, peanut oil, soybean oil and
all other fats and oils), cottonseed meal, cottonseed, peanuts,
soybeans, soybean meal, livestock, livestock products, and frozen
concentrated orange juice if the transaction is or is held out to be of
the character of, or is commonly known to the trade as an ``option,''
``privilege,'' ``indemnity,'' ``bid,'' ``offer,'' ``put,'' ``call,''
``advance guarantee,'' or ``decline guarantee,'' except as provided
under Sec. 32.13 of this part.
6. Section 32.13 is proposed to be revised to read as follows:
Sec. 32.13 Exemption from prohibition of commodity option transactions
for trade options on certain agricultural commodities.
(a) The provisions of Sec. 32.11 shall not apply to the
solicitation or acceptance of orders for, or the acceptance of money,
securities or property in connection with, the purchase or sale of any
commodity option of a physical commodity listed in Sec. 32.2 by a
person who is a producer, processor, or commercial user of, or a
merchant handing or selling inputs used in the production of, the
commodity which is the subject of the commodity option transaction, or
the products or byproducts thereof, or a bank routinely engaged in the
financing of such businesses, if all of the following conditions are
met at the time of the solicitation or acceptance:
(1) That person is registered with the Commission as an
agricultural trade option merchant and that person's associated persons
and their supervisors are registered as associated persons of an
agricultural trade option merchant under Sec. 3.13 of this chapter.
(2) The option offered by the agricultural trade option merchant is
offered to a producer, processor, or commercial user of, or a merchant
handling, the commodity which is the subject of the commodity option
transaction, or the products or byproducts thereof, and such producer,
processor, commercial user, or merchant is offered of enters into the
commodity option transaction soley for purposes related to its business
as such.
(3) [Reserved]
(4) To the extent that payment by the customer of the purchase
price is made to the agricultural trade option merchant prior to option
expiration or exercise, that amount:
(i) May only be used by the agrciultural trade option merchant to
purchase a covering position on a contract market designated under
section 6 of the Act or part 33 of this chapter; and
(ii) Any amount not so used shall be treated as belonging to the
customer until option expiration or exercise as provided under and in
accordance with Sec. 32.6 of this part.
(5) Producers may not:
(i) Grant or sell a put option; or
(ii) Grant or sell a call option, except to the extent that such a
call option is purchased or combined with a purchased or long put
option position, and only to the extent that the customer's call option
position does not exceed ghe customer's put option position in the
amount to be delivered. Provided, however, that the option must be
entered into simultaneously and expire simultaneously or at any time
that one or the other option is exercised.
(6) All option contracts, including all terms and conditions,
offered or sold pursuant to this section shall be in writing, a signed
copy of which shall be provided to the customer, of if the contract is
verbal, it shall be confirmed in a writing which includes all terms and
conditions, signed by the agricultural trade option merchant, and
provided to the customer within 48 hours.
(7) Prior to the entry by a customer into the first option
transaction with an agrcultural trade option merhant, the agrciultural
trade option merchant shall furnish, through written or electronic
media, a summary disclosure statement to the option customer. The
summary disclosure statement shall include:
(i) The following statements in boldface type on the first page(s)
of the summary disclosure statement:
This brief statement does not disclose all of the risks and
other significant aspects of trading in community trade options. You
are encouraged to seek out as much information as possible from
sources other than the person selling you this option about the use
and risks of option contracts before entering into this contract.
The issuer of your option should be willing and able to answer
clearly any of your questions.
Appropriateness of Option Contracts
Option contracts may result in the total loss of any funds you
pay to the issuer of your option. You should carefully consider
whether trading in such instruments is appropriate for you in light
of your experience, objectives, financial resources and other
relevant circumstances. The issuer of your option contract should be
willing and able to explain the financial outcome of your option
contract under different market conditions. You should also be aware
that this option is not issued by, guaranteed by, or traded on or
subject to the rules of a futures exchange. You may be able to
obtain a similar contract or execute a similar risk management
strategy using an instrument traded on a futures exchange which
offers greater regulatory and financial protections.
Costs and Fees Associated With an Option Contract
Before entering into an option contract, you should understand
all of the costs associated with it. These include the option
premium, commissions, fees, costs associated with delivery if the
option requires settlement by delivery upon its exercise and any
other charges which may be incurred. All of these costs and fees
must be specified in the terms of your option contract.
Know and Understand the Terms of the Option Contract
Before entering into an option contract, you should know and
understand all of the option contract's terms. All of the option
contract's terms should be included in the written contract, or for
a verbal agreement, in a written confirmation. You should receive a
signed copy of either the written contract or of the written
confirmation. Your option contract should include contract terms
setting:
(A) The total quantity of commodity underlying the option
contract;
(B) The strike price(s) of the option contract;
(C) The procedure for exercise of the option contract, including
when you can exercise and the latest time and date for exercise;
(D) Whether the option can be off-set or canceled prior to
expiration;
(E) Whether settlement of the option is for cash or by delivery
of the commodity;
(F) If settlement is by delivery, the delivery location or
locations, the quality or grade of commodity to be delivered and how
adjustments to price for deviations from stated quality or grade are
determined;
(G) If settlement is by cash, the method for determining the
cash-settlement price; and
(H) The cost and method of payment.
Business Use of Trade Options
In order to comply with the law, you must be buying this option
for business-related purposes. The terms and structure of the
contracts must therefore relate to your activity or commitments in
the underlying cash market. Any amendments allowed to the option
contract or its cancellation or off-set prior to its expiration date
must reflect changes in your activity, in your commitments in the
underlying cash market or in the carrying of inventory. Producers
are not permitted to enter into short call options unless the
producer also enters into a long put option contract for the same
amount or more of the commodity, at the same time and with the same
expiration date. Producers are not permitted to sell put options,
whether alone or in combination with a call option.
[[Page 47460]]
Dispute Resolution
If a dispute should arise under the terms of this trade option
contract, you have the right to choose to use the reparations
program run by the Commodity Futures Trading Commission or any other
dispute resolution forum provided to you under the terms of your
customer agreement or by law. For more information on the
Commission's Reparations Program contact: Office of Proceedings,
Commodity Futures Trading Commission, Three Lafayette Centre, 1155
21st Street, NW., Washington, DC 20581, (202) 418-5250.
Acknowledgment of Receipt
The Commodity Futures Trading Commission requires that all
customers receive and acknowledge receipt of this disclosure
statement. The Commodity Futures Trading Commission does not intend
this statement as a recommendation or endorsement of agricultural
trade options. These commodity options have not been approved or
disapproved by the Commodity Futures Trading Commission, nor has the
Commission passed upon the accuracy or adequacy of this disclosure
statement. Any representation to the contrary is a violation of the
Commodity Exchange Act and Federal regulations.
(ii) The following acknowledgment section:
I hereby acknowledge that I have received and understood this
summary risk disclosure statement.
----------------------------------------------------------------------
Date.
----------------------------------------------------------------------
Signature of Customer.
(8) An agricultural trade option merchant may not require a
customer to waive the right to seek reparations under section 14 of the
Act and part 12 of this chapter by an agreement or understanding to
submit a claim or grievance to a specified settlement procedure prior
to the time a claim or grievance arises. An agricultural trade option
merchant, when notifying a customer of its intent to submit a claim or
grievance to arbitration under a pre-existing agreement, must advise
the customer in writing that the customer within forty-five days may
elect to seek reparations under Section 14 of the Act and part 12 of
this chapter.
(b) Report of account information. Registered agricultural trade
option merchants must provide customers with open positions the
following information:
(1) Within two business days of the off-set, cancellation or
settlement of the option for cash, or of the amendment of the
expiration of the option, a statement of profit or loss on the
transaction and on the account;
(2) In response to a customer's request, current commodity price
quotes, all other information relevant to the customer's position or
account, and the amount of any funds owed by, or to, the customer
within one business day if responding orally and within two business
days if responding in writing;
(3) Written, verbal or electronic notice of the expiration date of
each option which will expire within the subsequent calendar month.
(c) Recordkeeping. Registered agricultural trade option merchants
shall keep full, complete and systematic books and records together
with all pertinent data and memoranda of or relating to such
transactions, including customer solicitations and covering
transactions, maintain such books and records as specified in Sec. 1.31
of this chapter, and make such reports to the Commission as provided
for in paragraphs (c) and (d) of this section and as the Commission may
otherwise require by rule, regulation, or order. Such books and records
shall be open at all times to inspection by any representative of the
Commission and the United States Department of Justice.
(d) Reports. Registered agricultural trade option merchants must
file annual reports with the Commission at its Washington, DC,
headquarters within ninety days after the close of the agricultural
trade option merchant's fiscal year, in the form and manner specified
by the Commission, which shall contain the following information:
(1) By commodity and put, call or combined option:
(i) Total number of new contracts entered into during the reporting
period;
(ii) Total quantity of commodity underlying new contracts entered
into during the reporting period;
(iii) Total number of contracts outstanding at the end of the
reporting period;
(iv) Total quantity of underlying commodity outstanding under
option contracts at the end of the reporting period;
(v) Total number of options exercised during the reporting period;
and
(vi) Total quantity of commodity underlying the options exercised
during the reporting period.
(2) Total number of customers by commodity with open option
contracts at the end of the reporting period.
(e) Special calls. Upon special call by the Commission for
information relating to agricultural trade options offered or sold on
the dates specified in the call, each agricultural trade option
merchant shall furnish to the Commission within the time specified the
following information as specified in the call:
(1) All positions and transactions in agricultural trade options,
including information on the identity of agricultural trade option
customers and on the value of premiums, fees, commissions, or charges
other than option premiums, collected on such transactions.
(2) All related positions and transactions for future delivery or
options on contracts for future delivery or on physicals on all
contract markets.
(3) All related positions and transactions in cash commodities,
their products, and by-products.
(f) Internal controls. (1) Each agricultural trade option merchant
registered with the Commission shall prepare, maintain and preserve
information relating to its written policies, procedures, or systems
concerning the agricultural trade option merchant's internal controls
with respect to market risk, credit risk, and other risks created by
the agricultural trade option merchant's activities, including systems
and policies for supervising, monitoring, reporting and reviewing
trading activities in agricultural trade options; policies for hedging
or managing risk created by trading activities in agricultural trade
options, including a description of the types of reviews conducted to
monitor positions; and policies relating to restrictions or limitations
on trading activities.
(2) The financial statements of the agricultural trade option
merchant must on an annual basis be audited by a certified public
accountant in accordance with generally accepted auditing standards.
(3) The agricultural trade option merchant must file with the
Commission a copy of its certified financial statements within 90 days
after the close of the agricultural trade option merchant's fiscal
year.
(4) The agricultural trade option merchant must perform a
reconciliation of its books at least monthly.
(5) The agricultural trade option merchant:
(i) Most report immediately if its net worth falls below the level
prescribed in Sec. 3.13(d)(1)(i) of this chapter, and must report
within three days discovery of a material inadequacy in its financial
statements by an independent public accountant or any state or federal
agency performing an audit of its financial statements, to the
Commission by facsimile, telegraphic or other similar electronic
notice; and
(ii) Within five business days after giving such notice, the
agricultural trade option merchant must file a written report with the
Commission stating what steps have been taken or are being taken to
correct the material inadequacy.
[[Page 47461]]
(6) If the agricultural trade option merchant's net worth falls
below the level prescribed in Sec. 3.13(d)(1)(i) of this chapter, it
must immediately cease offering or entering into new option
transactions and must notify customers having premiums which the
agricultural trade option merchant is holding under paragraph (a)(4) of
this section that such customers can obtain an immediate refund of that
premium amount, thereby closing the option position.
(g) Exemption. (1) The provisions of Secs. 3.13, 32.2, 32.11 and
this section shall not apply to a commodity option offered by a person
which has a reasonable basis to believe that:
(i) The option is offered to a producer, processor, or commercial
user of, or a merchant handling, the commodity which is the subject of
the commodity option transaction, or the products or byproducts
thereof;
(ii) Such producer, processor, commercial user or merchant is
offered or enters into the commodity option transaction solely for
purposes related to its business as such; and
(iii) Each party to the option contract has a net worth of not less
than $10 million or the party's obligations on the option are
guaranteed by a person which has a net worth of $10 million and has a
majority ownership interest in, is owned by, or is under common
ownership with, the party to the option.
(2) Provided, however, that Sec. 32.9 continues to apply to such
option transactions.
Issued this 25th day of August, 1999, in Washington, DC, by the
Commodity Futures Trading Commission.
Catherine D. Dixon,
Assistant Secretary of the Commission.
[FR Doc. 99-22555 Filed 8-30-99; 8:45 am]
BILLING CODE6351-01-M
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