Registered CPOs Required to Report Delegation to NFA

In order to assist NFA Members in meeting their NFA Bylaw 1101 obligations, NFA is requiring registered CPOs to report to NFA those commodity pools for which the CPO has been delegated investment authority. Registered CPOs will report such information to NFA on an annual basis when filing a commodity pool’s annual financial statement.  NFA Bylaw 1101 requires that NFA Members only do business with entities that are properly registered with the CFTC, if such entity is required to be registered. 

In 2014, the CFTC issued No-Action Letters setting forth conditions for the delegation of investment authority to registered CPOs.  The relief provided in the most recent CFTC No-Action Letter 14-126 is self-executing provided the enumerated conditions are met.  Since a notice of exemption is not required to be filed in connection with the delegation, NFA is requiring registered CPOs to report the delegation to NFA.  Basic information regarding the delegation will be publicly available on NFA’s BASIC for the benefit of other NFA Members.    

SEC Proposes Changes to Form ADV and Investment Adviser Recordkeeping Requirements

The SEC has proposed amendments to the Form ADV and rules regarding an investment adviser’s book and recordkeeping requirements in an effort to update information available to investors and regulators as well as to permit “umbrella registration” for certain private fund advisers.  The amendments to the Form ADV are the first such amendments proposed by the SEC since the Form ADV was revised to reflect changes as a result of the Dodd-Frank Act. 

The proposed amendments would require an investment adviser to report aggregate information on separately managed accounts, including information on regulatory assets, investments, borrowings and the use of derivatives.  The proposed revisions to the Form ADV would also request information regarding the investment adviser’s communications with the public and its use of social media.

The SEC has also proposed allowing U.S. private fund advisers to utilize, “umbrella registration” which would permit an advisory business, which may consist of multiple legal entities, to file one Form ADV on behalf of the multiple entities.  In its proposal, the SEC recognizes in the context of private funds, advisory business may utilize multiple entities to serve as general partners, fund managers or advisors, but in reality, all of the separate entities are part of one single advisory business.  Currently, the proposal would only permit advisory businesses in the U.S. that advise private funds, and separately managed accounts for qualified clients, to take advantage of umbrella registration.

Proposed amendments to recordkeeping rules would require that investment advisers keep records of all documentation that support performance calculations or rates of returns used in written communications to customers or promotional material.  Comments to the proposed rules are due 60 days after publication.

CTAs fined by NFA over Customer Order Allocations

Recently, six affiliated CTAs based in the U.S. and their principals, received fines totaling $1,150,000 as the result of failures to maintain proper records regarding customer order allocations, failures to ensure that bunched orders were allocated fairly among customers and failures to supervise.  In its complaints, NFA cited violations of NFA Rule 2-9, which requires NFA Members to diligently supervise its employees and agents and NFA Rule 2-10, which requires NFA Members to keep adequate records.  NFA also cited its related Interpretive Notice regarding the allocation of bunched orders.  The Interpretive Notice sets forth principles that must be followed in adopting and implementing procedures for the allocation of bunched orders.  The Interpretive Notice also requires that a CTA’s allocation procedures be sufficiently objective and specific so that NFA can verify the CTA’s methodology and ensure that allocations to customers are fair.

In the complaints, NFA noted that customer returns varied significantly during the same year, with in one case, the difference between the highest rate of return and the lowest rate of return for one year among customers being 25%.  While NFA acknowledged that a variety of factors can cause a difference in rates of returns by customers trading the same program, it also noted that one of those factors may be the failure to objectively allocate contracts from bunched orders.  Because the CTAs failed to maintain written procedures describing the methodology used and also failed to maintain sufficient records which would substantiate the objective implementation of its methodology, the CTAs were unable to assert that they had in fact allocated customer orders in an objective fashion. 

The foregoing decisions highlight the need for a CTA to maintain adequate written procedures as well as sufficient documentation to demonstrate that it is following its procedures.  Had the CTAs maintained written compliance manuals which made clear to their traders their expected allocation methodologies, and the need to comply with NFA’s Interpretive Notice, the decisions may have resulted in a better outcome for the CTAs.