The Joint Audit Committee – a representative committee of US futures exchanges and regulatory organizations – issued guidance regarding the handling of omnibus accounts by futures commission merchants.

Generally, omnibus accounts are accounts of other futures brokers carried by an FCM that contain the positions of more than one undisclosed customer. However, omnibus accounts may contain the positions of a single undisclosed customer.

As reminded by the JAC, carrying brokers are required to report open positions of omnibus accounts on a gross basis, although they can close out offsetting positions of the same customer upon receipt of written instructions. An FCM may also set up omnibus accounts with only one customer to automatically offset; however, the JAC guidance said, “the FCM [must] maintai[n] written evidence and regularly confir[m] that the omnibus account is solely for one underlying account owner.”

The minimum initial margin level for omnibus accounts is the maintenance margin level at the relevant exchange (click here, e.g., to access CME Rule 930.J). FCMs may apply higher margin levels, however. If an omnibus account fails to meet a margin call by close of business T + 2, the carrying FCM must take an undermargined capital charge. FCMs must notify their self-regulatory organization (or if notified by their SRO, the National Futures Association) within 24 hours if a margin call is satisfied in anything other than good funds.

According to the JAC, customer and house omnibus accounts of the same futures broker must be “separately established and reviewed.”

Compliance Weeds: Last month, CME Group’s chief regulatory officer summarily suspended Hana Financial Investment’s direct and indirect access to all CME Group markets for 60 days because of its alleged incomplete cooperation with several investigations from May 2017 through the present. CME Group also said that it appeared that Hana “improperly and inaccurately” netted positions among independently owned and controlled accounts within omnibus accounts at several CME Group clearing members, causing the clearing members to inaccurately report long and short positions and impacting open interest reporting. (Click here for background in the article “CME Group Summarily Suspends Foreign Broker’s Access to All Its Markets for Not Cooperating Fully With Its Investigations and Purported Position Misreporting” in the June 3, 2018 edition of Bridging the Week.)

It seems likely that the unexpected, sudden issuance of the JAC release is tied to CME Group’s recent experience.

Notwithstanding the impetus for the issuance of the current JAC advisory, the basic tenets of the guidance are consistent with longstanding requirements. (Click here for background in Chapter 7 of the Joint Audit Handbook prepared in July 1999.) The challenge for carrying FCMs, however, is knowing when representations by their omnibus account customers may be false.

(Click here for a summary of all reportable events by FCMs.)

Memory Lane: In 1987, a Japanese-based brokerage company, Three Eight Corporation, maintained a customer omnibus account for futures trading with Iowa Grain Corporation, an FCM, and routinely placed identical, but offsetting, matching buy and sell orders. When the orders were placed, Three Eight required Iowa Grain either to fill both offsetting orders at the same price or not at all. Iowa Grain then placed its orders with floor brokers for execution with the identical instructions. After execution of the trades, the omnibus account typically experienced no overall gains or losses; as permitted at the time, the customer omnibus account was margined on a net, not gross, basis.

The CFTC initiated an enforcement action against Three Eight, Iowa Grain and the floor brokers, alleging wash sales, in September 1988. The Administrative Law Judge hearing the case dismissed the complaint against Iowa Grain and the floor brokers claiming that the CFTC’s Division of Enforcement had not established the requisite intent by Three Eight’s customers to avoid a bona fide position, which the ALJ said was a prerequisite to proving a wash sale case.

The Commission affirmed the ALJ’s decision on appeal in 1993, holding that “in reviewing wash sale allegations, the Division’s focus should be on the intent of the ultimate customer rather than the intent of any omnibus account the customer may trade through.” As a result, the Commission held that the Division of Enforcement failed to establish that Iowa Grain and the floor brokers were “knowing participants” in wash sales. However, while the Commission recognized that the role of floor brokers was to obtain “good executions” for their customers, it also noted that floor brokers must evaluate orders they receive “for indications that [their] participation in the transaction is legally prohibited.” As the Commission warned, "failure to undertake such an inquiry in the face of such facts may support an inference of knowing participation in wash sales. Floor brokers who fail to undertake such inquiries act at their own peril."

(In re Three Eight Corporation, [1992-1994 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 25,749 at 40,439 (CFTC Jun.

16, 1993); click here for background regarding the initial CFTC enforcement action.)