CFTC Proposes Amendments to Regulatory Framework for Certain CPOs and CTAs and New Exemption for CPOs of Non-U.S. Pools

The Commodity Futures Trading Commission issued a Notice of Proposed Rulemaking on October 9, 2018 to amend certain aspects of the current regulatory framework applicable to commodity pool operators (CPOs) and commodity trading advisors (CTAs).¹ As part of Project KISS² and the CFTC’s ongoing efforts to simplify and modernize derivatives regulations, certain of the proposed amendments aim to: (1) ease the regulatory burden on CPOs and CTAs and make regulation more efficient; and (2) increase legal certainty by codifying and expanding relief currently available under a variety of CFTC staff advisories and industry-wide no-action letters.³ 

New Exemption for CPOs Operating Offshore Pools 

As background, in 1996, the staff of the CFTC Division of Trading and Markets issued a staff advisory (Advisory) that provided disclosure, reporting and recordkeeping relief for registered CPOs operating offshore commodity pools without solicitation or acceptance of funds from U.S. sources.⁴ The CFTC’s amendments propose to codify and expand that relief into a new CFTC Rule 4.13(a)(4) (Proposed Rule), which would provide an exemption from registration on a pool-by-pool basis for CPOs that meet the requirements of the Advisory, modified as discussed below. 

The Proposed Rule would expand the relief available under the Advisory in two important ways. First, the Proposed Rule would exempt CPOs that meet the requirements of the rule from CFTC registration with regard to the pool in question.⁵ Second, the Proposed Rule would allow CPOs to apply the exemption on a pool-by-pool basis, permitting CPOs to claim this exemption for qualifying offshore pools while operating other pools under other CFTC Part 4 registration exemptions (e.g., CFTC Rule 4.13(a)(3)) and operational exemptions (e.g., CFTC Rule 4.7(b)). 

To qualify for the exemption under the Proposed Rule, a CPO would need to meet restrictions under the Advisory prohibiting: (1) administrative activity or meetings in the United States; (2) holding or investing capital directly or indirectly contributed from U.S. sources; (3) marketing activity that could reasonably have the effect of soliciting someone from the United States; and (4) statutory disqualification under Commodity Exchange Act (CEA) Sections 8a(2) or 8a(3) for the CPO or any of its principals as discussed below. Also, while exempt from registration under the Proposed Rule, a CPO would continue to be subject to the anti-manipulation and anti-fraud provisions of the CEA. 

The CFTC has requested comment on two issues related to the Proposed Rule. First, the Proposed Rule would require that a CPO wishing to rely on this rule file notice of its exemption with the CFTC within 30 days of commencing an activity that makes reliance on the exemption necessary. The CFTC has asked for comment as to whether 30 days is an appropriate time period for such requirement. Second, CFTC Rule 4.13(a)(6) currently requires that CPOs relying on certain exemptions under CFTC Rule 4.13(a) provide prospective investors with notice of the CPO’s exemption from registration. The CFTC questions the value of this disclosure to non-U.S. investors and asks for comment as to whether a CPO relying on the Proposed Rule should be required to make these disclosures. 

Registered and exempt CPOs – especially those CPOs located outside of the United States – should review the Proposed Rule and consider whether it provides meaningful relief or creates additional unanticipated compliance burdens, as well as consider submitting a comment on the proposal to the CFTC. 

Statutory Disqualification 

Among the requirements for relief under the Advisory, a CPO (and any of its principals) may not be subject to a statutory disqualification under Sections 8a(2) and 8a(3) of the CEA. In its proposed rulemaking, the CFTC suggests that customer protection may be better served if the Proposed Rule, along with several other CFTC Rule 4.13(a) exemptions, is subject to this same prohibition of statutory disqualification. Accordingly, the CFTC is also proposing new CFTC Rule 4.13(a)(6)⁶ which would require any person claiming any CPO exemption under CFTC Rules 4.13(a)(1) through (a)(5), or affirming any prior claim of such exemption, to represent that neither the CPO nor any of its principals is subject to statutory disqualification under the relevant provisions of the CEA.⁷ The CFTC has requested comment as to: the impact this rule could have on currently exempt CPOs; whether the limited exemptions noted above successfully address any unintended consequences of the rule; and more generally how the CFTC should handle implementation and administration of this new requirement. 

Other Proposed Areas of Relief 

The CFTC’s proposed rulemaking includes several additional amendments that could codify existing CFTC Staff relief for other CPOs and CTAs. If adopted, the new rules would: (1) allow U.S.-based CPOs managing offshore commodity pools with U.S. participants to maintain the commodity pools’ original books and records offshore;⁸ (2) exempt from CPO and CTA registration advisers advising family offices;⁹ (3) exclude business development company (BDC) investment advisers from the definition of CPO with respect to the operation of a qualifying BDC under CFTC Rule 4.5;¹⁰ (4) align CFTC regulation with the JOBS Act by allowing CPOs to engage in general solicitation and marketing when eligible to do so under securities law;¹¹ and (5) relieve registered CPOs that operate only exempt pools from the requirement to file CFTC Form CPO-PQR, and relieve registered CTAs that do not direct client accounts from the requirement to file CFTC Form CTA-PR.¹²

The CFTC has requested comments be filed by December 17, 2018. 

Footnotes 

_{1) Registration and Compliance Requirements for Commodity Pool Operators and Commodity Trading Advisors, 83 Fed. Reg. 52902 (Oct. 18, 2018) (notice of proposed rulemaking).
2) Project KISS is a CFTC agency-wide initiative to review rules, regulations and practices to make them simpler, less burdensome and less costly. CFTC Chairman Giancarlo initiated Project KISS in response to a February 24, 2017 executive order directing U.S. federal agencies to review their regulations and consider reforms. As part of Project KISS, the CFTC solicited and received written comments and suggestions from derivatives market participants.
3) Statement of CFTC Chairman J. Christopher Giancarlo on Proposed Amendments to Registration and Compliance Requirements for Commodity Pool Operators and Commodity Trading Advisors (Oct. 9, 2018).
4) Offshore Commodity Pools Relief for Certain Registered CPOs From Rules 4.21, 4.22 and 4.23(a)(10) and (a)(11) and from the Location of Books and Records Requirement of Rule 4.23, CFTC Advisory 18-96 (Apr. 11, 1996).
5) The Advisory provided more limited relief, requiring registration as a CPO but exempting qualifying CPOs from certain operational requirements applicable to registered CPOs. When issued, the Advisory had exempted qualifying CPOs from most of the operational requirements otherwise applicable to a registered CPO at that time (disclosure, reporting to investors and certain recordkeeping requirements); however, since then, ongoing operational requirements applicable to registered CPOs have expanded. As a result, reliance on the Advisory currently does not provide relief from CFTC Rule 4.27 (filing CFTC Form CPO-PQR).
6) Currently CFTC Rule 4.13(a)(6) lays out disclosure requirements for certain exempt CPOs. The proposed rules would renumber that requirement as CFTC Rule 4.13(a)(7), and new CFTC Rule 4.13(a)(6) would be the statutory disqualification requirement.
7) The Proposed Rule states that the claim of CPO exemption cannot be filed or reaffirmed unless the statutory disqualification was: (1) previously disclosed in a registration application that was granted; or (2) disclosed (to the CFTC) more than 30 days prior to the claim of exemption. It therefore might appear that a statutory disqualification could be addressed simply with disclosure to the CFTC. However, the proposing release strongly suggests that operation under a CFTC Rule 4.13(a) CPO exemption would not be permitted if an entity or one of its principals is subject to a statutory disqualification, regardless of previous disclosure to the CFTC.
8) The Advisory also offered this less-extensive relief to CPOs that operated offshore pools but could not qualify for broader relief because of U.S. investment. Thus, the CFTC’s proposed amendments would codify both types of relief originally granted under the Advisory, although somewhat modified as discussed herein.
9) The Proposed Rule would codify relief previously granted in CFTC Staff Letters No. 12-37 (Nov. 29, 2012) and No. 14-143 (Nov. 5, 2014).
10) The Proposed Rule would codify relief previously granted in CFTC No-Action Letter No. 12-40 (Dec. 4, 2012).
11) The Proposed Rule would codify relief previously granted in CFTC No-Action Letter No. 14-116 (Sept. 9, 2014).
12) The Proposed Rule would codify relief previously granted in CFTC No-Action Letters No. 14-115 (Sept. 8, 2014) and No. 15-47 (July 21, 2015).}