CFTC NEWS – Proposed constraints on controversial event contracts clear regulatory hurdle - 17 May 2024

Amendments to the CFTC’s current rule, which would restrict election contracts, passed 3-2 along party lines; final approval is pending following a comment period.

The CFTC approved proposed amendments to its event contracts regulation Friday in a contentious bid to limit which event contracts can be listed for trading or clearing on a registered trading platform, essentially prohibiting contracts that reference terrorism, assassination, war, gaming or activity that is unlawful under any state or federal law or is contrary to public interest.

The proposal more clearly defines “gaming” to include the outcome of a political contest or an awards contest, and the outcome of a game “in which one or more athletes compete.” The proposal is limited to derivative contracts -- it would not impact sports betting venues that are regulated by state gaming boards.

While CFTC commissioners did not object to clamping down on potential trading linked to incidences of war or terrorism, the amendment of Provisions Common to Registered Entities, 17 C.F.R. §40.11. as it relates to gaming, including election outcomes, was hotly debated at the Commission’s open meeting.

Politics as a game. The commissioner’s vote was timely, not only because of the upcoming U.S. presidential election in November but also because applications for the event contracts have surged, according to CFTC Chairman Rostin Behnam, who voted in support of the amendments to limit their scope.

“Starting in 2021, there has been a significant uptick in the number of event contracts listed for trading by CFTC-registered exchanges,” Behnam said in opening remarks. “To put that increase into perspective, more event contracts were listed for trading in 2021 than had been listed in the prior 15 years combined. And that has continued to be true each year since.”

In response to this increase, the Commission launched its proposal to amend Regulation 40.11 to further specify the types of event contracts that fall within the purview of CEA section 5c(c)(5)(C), he said.

“To be clear, that means that even contracts on the outcome of a political contest such as an election could not be listed for trading or accepted for clearing under the proposed rule,” Behnam said. “Such contracts not only fail to serve the economic purpose of the futures markets -- they are illegal in several states and could potentially and impermissibly preempt state responsibilities for overseeing federal elections.” Further, “it puts the CFTC in the role of election cop,” he added.

Current cases under review. Behnam’s comments were pointed in light of two lawsuits brought against the CFTC in recent years by exchanges seeking to trade politically linked event contracts.

Last November, Kalshi Ex LLC challenged a final order by the CFTC that prohibited the exchange from offering controversial Congressional Control Contracts, charging that the Commission’s order exceeded its statutory authority under the Commodity Exchange Act (CEA). That case is ongoing.

In addition, last summer the Fifth Circuit granted a preliminary injunction to the New Zealand-based PredictIt Market, an online market that lets people trade on the predicted outcomes of political events, preventing it from shutting down after the CFTC rescinded its no-action letter issued in 2014 that allowed it to operate. The CFTC had rescinded the no-action letter in 2022, accusing PredictIt of violating its terms. On remand from the Fifth Circuit, the district court entered the preliminary injunction. Earlier this year, the Fifth Circuit ordered the case to be returned to the district court where it was originally filed.

Going too far or not far enough? Also voting in favor of the amendments, Commissioner Christy Goldsmith Romero suggested they may not go far enough -- and that quick action is imperative. “I would support a rule that goes even further” and prohibits all event contracts linked to election events, she said.

“Congress did not intend the CFTC to have enforcement authority over our elections,” said Goldsmith Romero. “Never before has the sanctity of elections been so critical,” she said. “Derivative products that interfere with or threaten an overriding national interest have no place in U.S. markets.”

Taking an opposing stance and voting against the amendments, Commissioner Summer Mersinger said while event contracts lacked clarity, the amendments’ definition of gaming was “grossly overbroad,” and the amendments themselves were much too far-reaching.

“It doesn’t matter whether we think event contracts are good or bad,” Mersinger said, “the Commission must exercise its authority with respect to event contracts within the scope of the CFTC’s legal authority … that Congress has provided us.” “Unfortunately, this proposal fails both tests,” Mersinger said.

Dissenting vote and a suggestion. Commissioner Caroline Pham also weighed in against the proposed amendment, saying the event contracts proposal “ties itself in knots over the bounds of gaming, which Congress has neither asked nor directed the Commission to regulate.” “I am simply disappointed in this wasted opportunity to regulate retail binary options, sidestepping our responsibility, and concerned about its legal impact,” Pham said.

She added that the rulemaking “is yet another example of how far the Commission has strayed from the requirements of the Administrative Procedure Act and the Constitution.” And, taking a step away from the meeting’s agenda, Pham called for a Government Accountability Office (GAO) study of the Commission’s procedures for rulemaking, examinations and compliance reviews, investigations and enforcement, and other duties.

“A GAO study and recommendations for improvement will ensure that the Commission has the internal operations, structure, technology, expertise, personnel, and funding to be effective in our oversight of commodity derivatives markets,” she said. “The Commission must be able to walk in a straight line before we run headlong into any expansion of jurisdiction.”

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