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Goal 2 Introduction

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In fostering financially sound markets, the Com-mission’s main priorities are to avoid disruptions to the system for clearing and settling contract obligations and to protect the funds that customers entrust to futures commission merchants (FCMs). Clearing organizations and FCMs are integral to the financial integrity of derivatives transactions—together, they protect against the financial difficulties of one trader becoming a systemic problem. Several aspects of the regulatory framework that contribute to the Commission achieving this goal are: 1) requiring that market participants post margin to secure their ability to fulfill financial obligations; 2) requiring participants on the losing side of trades to meet their obligations, in cash, through daily (sometimes intraday) margin calls; 3) requiring FCMs to maintain minimum levels of operating capital; and 4) requiring FCMs to segregate customer funds from their own funds.

The Commission works with the exchanges and the National Futures Association (NFA) to closely monitor the financial condition of the FCMs themselves, who must provide the Commission, exchanges, and NFA with various monthly, quarterly, and annual financial reports. The exchanges and NFA conduct routine, periodic audits and daily financial surveillance of their respective member FCMs. As a regulator, the Commission reviews the audit and financial surveillance programs of the exchanges and NFA and also monitors the financial condition of FCMs directly, as appropriate. This includes reviewing each FCM’s exposure to risk from large customer positions that it carries. The Commission also conducts extensive daily surveillance of risks posed by traders, firms, and derivatives clearing organizations (DCOs) and periodically reviews clearing organization procedures for monitoring risks and protecting customer funds.

The Commission works with the NFA to ensure that those seeking registration as intermediaries meet high qualification and fitness standards through the registration process. The Commission also drafts and interprets rules that apply to the conduct of business by these intermediaries. In 2010, the Commission adopted new registration, capital, and other requirements for retail foreign exchange dealers (RFEDs) that may act as counterparties for off-exchange foreign currency transactions involving retail participants. RFEDs are subject to similar financial requirements, and similar oversight, as the FCMs.

Under the CEA, DCOs must demonstrate compliance with core principles that require, among other things: 1) adequate financial, operational, and managerial resources; 2) appropriate standards for participant and product eligibility; 3) adequate and appropriate risk management capabilities; 4) the ability to complete settlements on a timely basis under varying circumstances; 5) standards and procedures to protect member and participant funds; 6) efficient and fair default rules and procedures; 7) adequate rule enforcement and dispute resolution procedures; and 8) adequate and appropriate systems safeguards, emergency procedures, and plans for disaster recovery. The Commission conducts periodic reviews of DCOs for their compliance with core principle requirements. The Commission surveys DCO exposures on a daily basis and compares such exposures to DCO financial resources. Additionally, the CFTC may review and approve DCO rules.

With the implementation of the Dodd-Frank Act, the Commission will have substantially greater responsibilities, including oversight of newly registered derivatives dealers, as well as implementation of enhanced compliance requirements for intermediaries and new core principle requirements for DCOs. The Commission also will be responsible for determining the initial eligibility or the continuing qualification of a DCO to clear swaps, as well as for the review of swaps submitted to the Commission for a determination as to whether the swaps are required to be cleared. The Commission also will be implementing new statutory provisions regarding review of new rules and rule amendments submitted by DCOs. In addition, the scope of the Commission’s reviews of DCOs, designated self-regulatory organizations (DSROs), and intermediaries will be expanded to include swap transactions and swap intermediaries.

The Dodd-Frank Act creates a new category of systemically important DCOs. These entities will have to comply with heightened risk management and other prudential standards. The Commission will be required to examine systemically important DCOs at least yearly. The Commission also has to ensure that all DCOs comply and bring their rules up to the new Dodd-Frank Act core principles and thus, the Commission intends to examine all DCOs on an annual basis. The Commission likely will see an increase in the number of DCOs seeking registration, including entities that are located outside the United States, from 15 (January 10, 2011) to at least 20. The additional clearinghouses that will register as DCOs likely will clear many more products that will require analysis. The risk profile of these cleared products will be more complex than traditional futures and options. As such, the clearing oversight program’s risk surveillance function will have to grow so that the CFTC can continue to effectively discharge its statutory duty to reduce systemic risk.

To implement these authorities, the CFTC will create a new group for the oversight of swaps dealers and intermediaries. A significant increase in staff focused on the development and implementation of regulations and programs in this previously unregulated arena will also be necessary.


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