COMMODITY FUTURES—CFTC proposes to update requirements for well-used compliance exemption - 04 October 2023

The proposed updates to Regulation 4.7 would be the first changes since its adoption in 1992 and would apply to commodity pool operators, commodity trading advisers, and commodity pools.

The CFTC has proposed to update the requirements underlying the exemption provisions of Regulation 4.7 which the Commission estimates is used by more than 800 commodity pool operators (CPOs) running 4,300 commodity pools and by more than 850 commodity trading advisers (CTAs) for thousands of trading programs. Among other things, the amendments would increase the portfolio requirement monetary thresholds in Regulation 4.7(a)(1)(v) to account for the effects of inflation over the last 30 years, and would create new minimum disclosure requirements for CPOs and CTAs operating pools and trading programs under the regulation.

The Commission said that it wants to modernize Regulation 4.7 given that it is by far the most popular registration status for CPOs and CTAs. The number of CPOs and CTAs relying upon Regulation 4.7 significantly outnumbers CPOs and CTAs that are fully registered, the CFTC noted, and it expects that gap to continue to grow.

Regulation 4.7 currently provides exemptions from certain compliance requirements regarding disclosure, periodic reporting, and recordkeeping for registered CPOs and CTAs whose pool participants and/or advisory services are restricted to individuals and entities considered qualified eligible persons (QEPs). The regulation’s definition of “qualified eligible persons” includes a portfolio requirement with a securities portfolio test threshold at $2 million and an initial margin and premium test threshold set at $200,000.

Increased portfolio requirement. To keep up with inflation, the CFTC is proposing to double the securities portfolio test to $4 million and the initial margin and premium test to $400,000. Commissioner Kristin Johnson, who voted in favor of issuing the proposals, said that if the amendments are adopted, some pool participants and advisory clients that do not receive disclosures under the existing regulation will benefit from greater customer protection measures under Part 4 of the CFTC’s regulations. The proposed thresholds are not even as high as those originally proposed in 1992, she noted, so she believes the new thresholds are not too restrictive or limiting.

Minimum disclosure requirements. In addition to increasing the portfolio requirement monetary thresholds, the CFTC proposed new minimum disclosure requirements for CPOs and CTAs operating pools and trading programs under Regulation 4.7. The Commission believes that requiring CPOs and CTAs to provide a baseline level of information to QEPs would alleviate concerns that have grown with the developments in derivatives markets, and increasingly complex products within those markets, over the last 30 years. The CFTC also is concerned that, without requiring basic disclosures, QEPs may have diminished power and leverage over time to demand a level of information necessary to make informed investment decisions from CPOs and CTAs offering 4.7 pools and trading programs.

In a dissenting statement, Commissioner Summer Mersinger said that she does not support the proposal to impose universal disclosure requirements to QEPs. She stated that it represents a “mandate first, evaluate later” approach based on assumptions and speculation, and fails to fulfill certain fundamental functions of sound notice-and-comment rulemaking.

Codifying exemptive letters. A third proposed amendment would codify routinely issued exemptive letters allowing CPOs of funds of funds operated under Regulation 4.7 to choose to distribute monthly account statements within 45 days of the month-end. The Commission reasoned that due to the popularity and regularity of the oft-requested and issued letter relief, it believes that adding the alternative account statement schedule to Regulation 4.7, thereby making it available to all CPOs of funds of funds without an individual request, is appropriate.

Finally, the CFTC proposed certain technical amendments to Regulation 4.7 designed to improve its efficiency and usefulness for intermediaries and their prospective and actual QEP pool participants and advisory clients, as well as the general public.

The comment period on the proposals will be open for 60 days after publication in the Federal Register.

© 2021 CCH Incorporated and its affiliates and licensors. All rights reserved.