Three divisions of the Commodity Futures Trading Commission issued their 2019 examination priorities. This marked the first time in its history the CFTC has issued such an advisory. The three divisions were the Division of Market Oversight, the Division of Swap Dealer and Intermediary Oversight and the Division of Clearing and Risk.
DMO – which oversees designated contract markets and swap execution facilities – said that in 2019 it would principally review DCMs and not SEFs because of the current consideration of SEF rule reform. (Click here for background in the article “Over One Commissioner’s Vehement Dissent, CFTC Authorizes Publication for Comment Proposed Rules to Overhaul Swaps Trade Execution Requirements on Trading Facilities” in the November 11, 2018 edition of Bridging the Week.) During its rule enforcement reviews of DCMs, DMO will look at, among other things, DCMs’ surveillance of cryptocurrency, disruptive trading and other trade practice offenses and block trades as well as practices regarding market maker and trading incentive programs and use of third-party regulatory service providers.
DMO also indicated that, during 2019, it will reach out to SEFs to begin formulating a future examination program.
DSIO – which is responsible for the oversight of futures commission merchants, introducing brokers, swaps dealers, major swap participants, commodity pool operators and commodity trading advisors – will concentrate on customer protection themes in its reviews, including the withdrawal of residual interest funds from customer accounts; accepted forms of non-cash margin; compliance with segregation requirements; and FCM use of customer depositories. The Division will also review FCM customer account documentation and swap dealers’ and MSPs’ relationships with third-party vendors.
DCR indicated that it will principally examine derivatives clearing organizations to “identify areas of weakness or non-compliance in activities that are critical to a safe and efficient clearing process.” Among other topics these areas would include financial resources and cyber-security policies and procedures.
In November 2018, the CFTC’s Division of Enforcement issued its annual report where it identified four of its priorities: preserving market integrity, protecting customers, promoting individual accountability, and augmenting cooperation with other regulators and criminal authorities. To accomplish these objectives, DOE said it began or continued a number of “key” initiatives during FY 2018: evolving its program of cooperation and self-reporting; enhancing data analytics (most notably by moving the Market Surveillance Unit from DSIO to DOE); and creating specialized task forces to address spoofing and manipulative trading, virtual currency, insider trading and protection of confidential information, and obligations to file suspicious activity reports and maintain know-your-customer programs for anti-money laundering purposes. (Click here for background in the article “CFTC Enforcement Division Lauds Success of FY 2018 Accomplishments; Says Goal Is to Foster ‘True Culture of Compliance’,” in the November 18, 2018 edition of Bridging the Week.)
Separately, the CFTC extended the comment period until March 15 for persons wanting to express views on the its proposed rulemaking related to SEFs and the trade execution requirement as well as pertaining to the practice of post-trade name give-ups. Both comment periods initially were scheduled to expire on February 13. (Click here for background in the article, “Over One Commissioner’s Vehement Dissent, CFTC Authorizes Publication for Comment Proposed Rules to Overhaul Swaps Trade Execution Requirements on Trading Facilities” in the November 11, 2018, edition of Bridging the Week.)
My View: Although the CFTC’s announcement of its 2019 examination priorities is very welcome, it would have been better to provide more details regarding the subjects staff identified for review, particularly for FCMs and DCOs. Most of the topics were simply flagged with a few words accompanied by no explanation. For example, is there something about FCM customer account documentation that is concerning to CFTC staff? If yes, what are the worrisome provisions and what are the CFTC’s expectations? Likewise is there something unique about swap dealers’ and MSPs’ relationships with third-party vendors that warrants particular CFTC attention, as opposed to the relationship other registrants may have with such third-party entities?
Moreover DMO’s intention to review numerous specific surveillance activities of DCMs (e.g., block trades) should flash a cautionary light to other industry participants. Following a 2013 rule review of two CME Group exchanges regarding their handling of exchange for related position transactions, the number of inquiries to FCMs related to EFRPs substantially increased as did follow-up disciplinary actions. (Click here for background in the article “Alphabet Soup Under CFTC Scrutiny: CFTC Review of CME Handling of EFRPs, Suggests Tougher Times for Traders and FCMs” in the August 6, 2013 edition of Bridging the Week.)
The CFTC’s announcement of examination priorities is a good development and is consistent with annual announcements by the Office of Compliance and Inspections at the SEC and the Financial Industry Regulatory Authority. Advance identification of exam topics enables registrants to help tailor their own compliance programs to meet the evolving expectations of the CFTC. However, to enhance the effectiveness of such announcements in the future – a few more details, please! (Click here for background on OCIE’s 2019 examination priorities in the article “Offer and Sale of Digital Assets and Cybersecurity Among the Focus of SEC OCIE 2019 Examination Priorities” in the January 6, 2019 edition of Bridging the Week.)