[Federal Register: September 28, 2005 (Volume 70, Number 187)] [Proposed Rules] [Page 56608-56611] From the Federal Register Online via GPO Access [wais.access.gpo.gov] [DOCID:fr28se05-19] ======================================================================= ----------------------------------------------------------------------- COMMODITY FUTURES TRADING COMMISSION 17 CFR Part 1 RIN 3038--AC20 Definition of ``Client'' of a Commodity Trading Advisor AGENCY: Commodity Futures Trading Commission. ACTION: Proposed rules. ----------------------------------------------------------------------- SUMMARY: The Commodity Futures Trading Commission (Commission or CFTC) is proposing to amend Rule 1.3(bb) by adding to that rule a definition of the term ``client,'' as it relates to commodity trading advisors (CTAs) (Proposal). This would clarify inconsistencies in the Commission's regulations concerning the advisees of CTAs. The Proposal would also reflect the Commission's longstanding view that its antifraud authority extends to all CTAs, irrespective of whether they provide advice on a personalized or nonpersonalized basis. DATES: Comments must be received on or before November 28, 2005. ADDRESSES: Comments on the Proposal should be sent to Jean A. Webb, Secretary, Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581. Comments may be sent by facsimile transmission to (202) 418-5528, or by e-mail to [email protected]. Reference should be made to ``Proposed Rule Regarding the Definition of `Client' of a Commodity Trading Advisor.'' Comments may also be submitted by connecting to the Federal eRulemaking Portal at href="http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.regulations.gov" shape="rect">http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.regulations.gov and following the comment submission instructions. FOR FURTHER INFORMATION CONTACT: Barbara S. Gold, Associate Director, or R. Stephen Painter, Jr., Staff Attorney, Division of Clearing and Intermediary Oversight, Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581, telephone number: (202) 418-5450 or (202) 418-5416, respectively; facsimile number: (202) 418-5528; and electronic mail: [email protected] or [email protected], respectively. SUPPLEMENTARY INFORMATION: I. The Proposal A. Background Section 1a(6)(A) of the Commodity Exchange Act (Act) \1\ defines the term ``commodity trading advisor'' to mean any person who: --------------------------------------------------------------------------- \1\ 7 U.S.C. 1a(6) (2000). The Act and the Commission's regulations issued thereunder can be accessed at href="http://frwebgate5.access.gpo.gov/cgi-bin/TEXTgate.cgi?WAISdocID=59218411834+0+1+0&WAISaction=retrieve" shape="rect">http://frwebgate5.access.gpo.gov/cgi-bin/TEXTgate.cgi?WAISdocID=59218411834+0+1+0&WAISaction=retrieve and href="http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.gpoaccess.gov/ecfr" shape="rect">http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.gpoaccess.gov/ecfr, respectively. (i) For compensation or profit, engages in the business of advising others, either directly or through publications, writings, or electronic media, as to the value of or the advisability of trading in-- (I) Any contract of sale of a commodity for future delivery made or to be made on or subject to the rules of a contract market or derivatives transaction execution facility; (II) Any commodity option authorized under section 4c; or (III) Any leverage transaction authorized under section 19; or (ii) For compensation or profit, and as part of a regular business, issues or promulgates analyses or reports concerning any of the activities referred to in clause (i). Under the language of Section 1a(6)(A) of the Act, the term ``commodity trading advisor'' can include advisors who provide nonpersonalized advice, such as publishers of advisory newsletters or Web sites, as well as advisors who provide advice tailored to the needs of particular persons and advisors who direct other persons' trading pursuant to a power of attorney or other written [[Page 56609]] authorization. Section 1a(6)(B) of the Act excludes certain persons from the CTA definition where, as provided for in Section 1a(6)(C) of the Act, their furnishing of advice with respect to trading in commodity futures and options is solely incidental to the conduct of their business or profession.\2\ --------------------------------------------------------------------------- \2\ These excluded persons include, among others, teachers and publishers. In this regard, the Commission notes that, for a teacher or publisher to claim the exclusion from the CTA definition in Section 1a(6)(B) of the Act, the trading advice activity may not be the sole teaching or publishing activity, but instead must be solely incidental to the teacher's or publisher's other teaching and publishing activities. See e.g., In the Matter of Armstrong, et al., [1992-1994 Transfer Binder] Comm. Fut. L. Rep. (CCH) ] 25,657 (CFTC Feb. 8, 1993) (holding that publishers of standardized advice are not excluded from the definition of CTA where publication is ``largely devoted to advice about trading commodity futures or options contracts''). --------------------------------------------------------------------------- Rule 1.3(bb) \3\ contains essentially the same definition of the term ``commodity trading advisor'' as that contained in section 1a(6) of the Act.\4\ However, neither the Act nor the Commission's regulations issued thereunder define who the ``others'' are that are advised by CTAs. Moreover, neither the Act nor the regulations are consistent when referring to these advisees. Although most of the relevant provisions refer solely to ``clients,'' \5\ a few of the provisions refer to ``clients and subscribers.'' \6\ The Proposal is intended to clarify these inconsistencies.\7\ Specifically, the Proposal is intended to clarify that, as used in provisions of the Act and the regulations relating to CTAs, the term ``client'' refers to all customers of a CTA, including persons who receive advice by subscribing to a newsletter or other information service. A ``subscriber,'' then, as used in these statutory provisions and rules, is one type of ``client.'' \8\ --------------------------------------------------------------------------- \3\ Commission rules cited to herein are found at 17 CFR Ch. I (2005). \4\ The Commodity Futures Modernization Act of 2000 (CFMA) amended the statutory definition of ``commodity trading advisor'' to take account of the new type of trading facility known as a ``derivatives transaction execution facility.'' See Commodity Futures Modernization Act of 2000, Pub. L. 106-554, Appendix E, 114 Stat. 2763, Section 123(a)(1)(A). The Commission intends to make a conforming change to its rules in connection with final action on the Proposal. The CFMA can be accessed through the Commission's Web site: href="http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.cftc.gov/files/ogc/ogchr5660.pdf" shape="rect">http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.cftc.gov/files/ogc/ogchr5660.pdf. \5\ The Act refers solely to ``clients'' of CTAs in, for example, Section 4k(3)(i), 7 U.S.C. 6k(3)(i) (registration of persons associated with CTAs), and 4o(1)(A) and (B), 7 U.S.C. 6o(1)(A) and (B) (antifraud provisions applicable to CTAs). The regulations refer solely to ``clients'' of CTAs in, for example, Rules 4.30 (prohibited activities of CTAs) and 4.41(a) (advertising by CTAs). \6\ For example, Section 4n(3)(A) of the Act, 7 U.S.C. 6n(3)(A), and Rule 4.33 (recordkeeping requirements for CTAs) refer to ``clients'' and ``subscribers'' of CTAs. The Act also refers to ``subscribers'' other than advisees of CTAs, but these provisions are not relevant for the purposes of the Proposal. See, e.g., Section 1a(1)(C) of the Act, 7 U.S.C. 1a(1)(C) (definition of alternative trading system) and Section 5f(b) of the Act, 7 U.S.C. 7b-1(b) (designation of securities exchanges and associations as contract markets). \7\ When Congress originally defined the term ``commodity trading advisor'' in 1974, the definition included any person providing trading advice ``either directly or through publications or writings.'' With the advent of various electronic media, Congress expanded the CTA definition in 1982 to include ``publications, writings or electronic media.'' Pub. L. 97-444, 96 Stat. 2294, Sec. 201 (Jan. 11, 1983) (emphasis added). Since 1982, these electronic media have proliferated, now including the Internet, email, and any number of software programs developed by CTAs. By defining ``client'' of a CTA using the terms of the statutory CTA definition, the Commission intends to update the scope of that term to include subscribers to, and other advisees of, the various electronic or print media now available. \8\ The usual presumption that different terms in a statute have separate meanings is rebutted as to the terms ``client'' and ``subscriber'' in the provisions of the Act regulating CTAs, by the language of the introductory provision, Section 4l(1), which lists ``subscriptions'' as one of the ``arrangements with clients'' entered into by CTAs. This language implies that, in connection with CTAs, a person who arranges for a subscription, in other words a ``subscriber,'' is a type of ``client.'' Moreover, a definition of ``client'' that excludes ``subscribers'' would not make sense in light of the language of Section 1a(6)(A)(i) of the Act defining a ``commodity trading advisor'' to include a person who provides advice ``through publications, writings, or electronic media.'' The customers of such CTAs could reasonably be described as ``subscribers,'' but there is no logical reason for such customers to receive less protection under the statute than other customers of CTAs. --------------------------------------------------------------------------- In addition, the Commission believes that defining the term ``client'' of a CTA is necessary as a result of several court cases in which various CTAs have argued that, because the antifraud provisions of Section 4o of the Act \9\ refer to ``client'' rather than ``client or subscriber,'' those provisions apply only to CTAs who provide advice on a personalized basis.\10\ As explained more fully below, the proposed definition would clarify that Section 4o applies to all CTAs, and not just to those who provide advice on a personalized basis. In this regard, the Commission notes that the only federal appeals court to have reached the merits of the meaning of the term ``client'' in Section 4o, the Seventh Circuit in Commodity Trend Service,\11\ deferred to the Commission's interpretation of Section 4o, finding that the Commission's position was a reasonable interpretation of the statutory language and that it appeared to effectuate Congressional intent. The court held that the use of the term ``client'' in Section 4o does not connote only a personalized relationship. Instead, according to the court, the term ``client'' ``can refer to * * * those who receive tailored advice from professionals or those who receive any kind of service regardless of whether it is personalized.'' \12\ --------------------------------------------------------------------------- \9\ 7 U.S.C. 6o. \10\ Commodity Trend Serv., Inc. v. CFTC, 233 F.3d 981 (7th Cir. 2000); R & W Technical Servs. Ltd. v. CFTC, 205 F.3d 165 (5th Cir. 2000); CFTC v. Vartuli, 228 F.3d 94 (2d Cir. 2000). \11\ Commodity Trend Serv., 233 F.3d at 981. \12\ Id. at 991. --------------------------------------------------------------------------- B. Proposed Rule 1.3(bb)(2) The Commission is proposing to add paragraph (bb)(2) to Rule 1.3, which would define the term ``client,'' as it relates to a CTA, as including: Any person (i) to whom a commodity trading advisor provides advice, for compensation or profit, either directly or through publications, writings, or electronic media, as to the value of, or the advisability of trading in, any contract of sale of a commodity for future delivery made or to be made on or subject to the rules of a contract market or derivatives transaction execution facility, any commodity option authorized under section 4c of the Act, or any leverage transaction authorized under section 19 of the Act; or (ii) to whom, for compensation or profit, and as part of a regular business, the commodity trading advisor issues or promulgates analyses or reports concerning any of the activities referred to [above]. The term `client' includes, without limitation, any subscriber of a commodity trading advisor. The proposed definition, then, would include clients to whom a CTA provides personalized trading advice as well as clients to whom a CTA provides nonpersonalized trading advice. Such nonpersonalized advice would include, among other things, standardized advice provided by newsletters, seminars, tutorials, periodicals, computer software, Internet Web sites, voicemail recordings, e-mails, and facsimiles. The definition also would cover advice provided over a period of time pursuant to a subscription arrangement or on a one-time basis. Because the proposed definition of ``client'' of a CTA would include a person to whom the CTA provides advice on either a personalized or nonpersonalized basis, it would make clear that the antifraud provisions of Section 4o of the Act apply to all persons who come within the statutory definition of the term ``commodity trading advisor,'' and not, for example, just to those who provide personalized trading advice or who direct their clients' trading--i.e., CTAs who must register as such with the Commission pursuant to Section 4m(1) of the Act.\13\ This view is consistent with the Commission's longstanding interpretation of the provisions of Section 4o of the Act. Specifically, more than 25 years ago, in explaining why it [[Page 56610]] adopted certain exemptions from CTA registration--as opposed to exclusions from the CTA definition--the Commission rejected the notion that Section 4o applies solely to CTAs who have a personalized relationship with their advisees, stating: --------------------------------------------------------------------------- \13\ 7 U.S.C. 6m(1). Section 4o should remain applicable to the persons covered by the rule because * * * their clients and subscribers are entitled to the protections of the antifraud provisions whether or not these persons remain obligated to be registered[.] \14\ --------------------------------------------------------------------------- \14\ 43 FR 32291, 32292 (July 26, 1978) (emphasis added). The Commission additionally explained that ``Section 4o basically makes it unlawful, among other things, for any CTA to defraud an existing or prospective client or subscriber.'' Id. at n.2 (emphasis added). More recently, in connection with its adoption of Rule 4.14(a)(9), the Commission expressly noted that a CTA exempt from registration by virtue of its offering nonpersonalized advice and its not directing client accounts nevertheless remains subject to the provisions of the Act that apply to all CTAs, including the antifraud provisions of Section 4o.\15\ --------------------------------------------------------------------------- \15\ 65 FR 12938, 12941 (March 10, 2000); see also 68 FR 47221, 47222 (Aug. 8, 2003) (providing for additional CTA registration exemptions, but noting that ``regardless of registration status, all persons who come within the * * * CTA definition are subject to * * * provisions of the Act and the Commission's rules prohibiting fraud that apply to * * * CTAs''; see also 68 FR 34790, 34791 (June 11, 2003) (expanding the class of account managers permitted to bunch orders to include, among others, CTAs who are exempt from the registration requirement, but noting that ``the Commission will retain antifraud and antimanipulation authority over account managers who are exempt from registration.'') The Commission has consistently enforced the antifraud provisions of Section 4o against both registered CTAs and CTAs not required to register under the Act. E.g., In the Matter of Stephen Alan Pierce, CFTC Docket No. 02-15 (January 21, 2003) (``Section 4o of the Act prohibits both registered and unregistered CTAs from defrauding their clients.''); In the Matter of Michael Radcliffe, CFTC Docket No. 02-04 (June 10, 2002); In the Matter of CTS Fin. Publ'g, Inc., et al., CFTC Docket No. 00-34 (July 5, 2001). --------------------------------------------------------------------------- II. Related Matters A. Regulatory Flexibility Act The Regulatory Flexibility Act (RFA) \16\ requires that agencies, in proposing rules, consider the impact of those rules on small businesses. The Commission has previously established certain definitions of ``small entities'' to be used by the Commission in evaluating the impact of its rules on such entities in accordance with the RFA.\17\ --------------------------------------------------------------------------- \16\ 5 U.S.C. 601 et seq. \17\ 47 FR 18618 (April 30, 1982). --------------------------------------------------------------------------- With respect to CTAs, the Commission has previously stated that it would evaluate within the context of a particular rule proposal whether all or some affected CTAs would be considered to be small entities and, if so, the economic impact on them of the proposal.\18\ The Commission does not believe that proposed Rule 1.3(bb)(2) would have a significant impact on affected CTAs. This is because the only burden imposed by the proposed amendment would be the obligation to comply with the antifraud provisions of Section 4o of the Act. Assuming arguendo, however, that compliance with Section 4o would constitute a significant burden, the burden is neither new nor additional, because proposed Rule 1.3(bb)(2) is consistent with the Commission's longstanding interpretation of Section 4o as applicable to all CTAs. --------------------------------------------------------------------------- \18\ Id. at 18620. --------------------------------------------------------------------------- Accordingly, the Chairman, on behalf of the Commission, certifies pursuant to Section 605(b) of the RFA \19\ that the proposed rule will not have a significant economic impact on a substantial number of small entities. However, the Commission invites the public to comment on this finding. --------------------------------------------------------------------------- \19\ 5 U.S.C. 605(b). --------------------------------------------------------------------------- B. Paperwork Reduction Act The Paperwork Reduction Act of 1995 (``PRA'') 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. The proposed rule amendment does not require a new collection of information on the part of any entities. Accordingly, for purposes of the PRA, the Commission certifies that the proposed rule amendment, if promulgated in final form, would not impose any new reporting or recordkeeping requirements. C. Cost-Benefit Analysis Section 15(a) of the Act \20\ requires the Commission to consider the costs and benefits of its action before issuing a new regulation under the Act. By its terms, Section 15(a) does not require the Commission to quantify the costs and benefits of a new regulation or to determine whether the benefits of the proposed regulation outweigh its costs. Rather, Section 15(a) simply requires the Commission to ``consider the costs and benefits'' of its action. --------------------------------------------------------------------------- \20\ 7 U.S.C. 19(a). --------------------------------------------------------------------------- Section 15(a) further specifies that costs and benefits shall be evaluated in light of five broad areas of market and public concern: protection of market participants and the public; efficiency, competitiveness, and financial integrity of futures markets; price discovery; sound risk management practices; and other public interest considerations. Accordingly, the Commission could in its discretion give greater weight to any one of the five enumerated areas and could in its discretion determine that, notwithstanding its costs, a particular rule 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 Proposal is intended to define the term ``client'' of a CTA and to clarify that all CTAs are within the purview of the antifraud provisions of Section 4o of the Act. The Commission is considering the costs and benefits of this rule in light of the specific provisions of Section 15(a) of the Act as follows: 1. Protection of Market Participants and the Public Because the Proposal expressly brings all CTAs within the purview of the antifraud provision of Section 4o of the Act, the Proposal should enhance the Commission's ability to protect market participants and the public. 2. Efficiency and Competition The Proposal should have no effect, from the standpoint of imposing costs or creating benefits, on efficiency or competition. 3. Financial Integrity of Futures Markets and Price Discovery The Proposal should have no effect, from the standpoint of imposing costs or creating benefits, on the financial integrity or price discovery function of the commodity futures and option markets. 4. Sound Risk Management Practices The Proposal should have no effect, from the standpoint of imposing costs or creating benefits, on the available range of sound risk management alternatives. 5. Other Public Interest Considerations The Proposal should have no effect, from the standpoint of imposing costs or creating benefits, on any other public interest considerations. After considering these factors, the Commission has determined to propose the amendment discussed above. The Commission invites public comment on its application of the cost-benefit provision. Commenters also are invited to submit any data that they may have quantifying the costs and benefits of the Proposal with their comment letters. [[Page 56611]] List of Subjects in 17 CFR Part 1 Brokers, Commodity futures, Consumer protection, Reporting and recordkeeping requirements. For the reasons presented above, the Commission proposes to amend 17 CFR part 1 as follows: PART 1--GENERAL REGULATIONS UNDER THE COMMODITY EXCHANGE ACT 1. The authority citation for part 1 continues to read as follows: Authority: 7 U.S.C. 1a, 2, 5, 6, 6a, 6b, 6c, 6d, 6e, 6f, 6g, 6h, 6i, 6j, 6k, 6l, 6m, 6n, 6o, 6p 7, 7a, 7b, 8, 9, 12, 12a, 12c, 13a, 13a-1, 16, 16a, 19, 21, 23 and 24, as amended by the Commodity Futures Modernization Act of 2000, appendix E of Pub. L. 106-554, 114 Stat. 2763 (2000). 2. Section 1.3 is proposed to be amended by adding new paragraph (bb)(2) to read as follows: Sec. 1.3 Definitions. * * * * * (bb)(1) * * * (2) Client. This term, as it relates to a commodity trading advisor, means any person (i) to whom a commodity trading advisor provides advice, for compensation or profit, either directly or through publications, writings, or electronic media, as to the value of, or the advisability of trading in, any contract of sale of a commodity for future delivery made or to be made on or subject to the rules of a contract market or derivatives transaction execution facility, any commodity option authorized under section 4c of the Act, or any leverage transaction authorized under section 19 of the Act; or (ii) to whom, for compensation or profit, and as part of a regular business, the commodity trading advisor issues or promulgates analyses or reports concerning any of the activities referred to in paragraph (bb)(2)(i) of this section. The term ``client'' includes, without limitation, any subscriber of a commodity trading advisor. * * * * * Issued in Washington, DC, on September 22, 2005 by the Commission. Catherine D. Daniels, Assistant Secretary of the Commission. [FR Doc. 05-19323 Filed 9-27-05; 8:45 am] BILLING CODE 6351-01-M