The U.S. futures regulator unanimously approved on Monday tighter limits on how brokerage firms can use customer funds, a measure the now-bankrupt MF Global had encouraged the agency to delay.
The Commodity Futures Trading Commission rule prevents brokerage firms, known as futures commission merchants, from conducting in-house repurchase transactions and restricts them from investing customer money in foreign sovereign debt.
It is not clear whether the rule would have prevented MF Global from misappropriating as much as $1.2 billion in customer money, in what regulators believe was an unprecedented breach of client funds.
It appears likely that the push to finalize the rule gained momentum after the brokerage's collapse shook faith in regulators' ability to protect commodity traders.
Futures customers generally and, indeed, the public are rightly demanding that the commission take immediate steps - even before the MF Global investigation is complete - to reassure them we are doing everything we can to safeguard customer money, said Mark Wetjen, a Democratic commissioner who was sworn in at the CFTC in October.
Wetjen said while the CFTC cannot be sure the present rule will address specific issues that are ultimately raised by the MF Global case, it's an important step toward protecting customer funds.
The measure was finalized by the CFTC in a 5-0 vote. The rule was initially proposed by the CFTC in October 2010, but stalled because there was not enough commissioner support.
The agency also passed two lesser-known measures as it races to put in place the sweeping overhaul of U.S. financial regulations ordered by last year's Dodd-Frank law. It is well behind schedule having implemented some 20 rules so far, with most of the high-profile and controversial rules yet to come.
MF GLOBAL OPPOSED THE RULE
Many firms, including MF Global and its former chief executive, Jon Corzine, lobbied against the rule and asked the CFTC to hold back on finalizing it.
Any changes, they said, would hurt their customers and firms, robbing them of a key source of income - interest revenue on customer accounts.
MF Global, which filed for bankruptcy on October 31 after investors got spooked by its large bets on European sovereign debt, is now under investigation for potentially raiding customer funds for the firm's use. Hundreds of millions of dollars in customer money is still unaccounted for.
There is so little good information on what actually happened at MF Global that it is hard to know if this would have made a difference, Daniel Waldman, a partner with law firm Arnold & Porter and a former general counsel at the CFTC, said of the rule.
The CFTC rule backtracks on a move in 2005 to give brokers the ability to invest customer funds more liberally.
Currently, futures commission merchants are allowed to engage in internal repurchases, or so-called repo agreements. The transactions allow the firm to take customer funds and invest them in a range of securities such as sovereign debt.
In exchange for using the cash, firms are required to back it up with high-quality collateral such as Treasuries, something it appears MF Global failed to do.
Tightening up what they can invest in with customer funds is one step toward reassuring people, but ultimately they're going to have to go further, said Jack Scoville, Price Futures Group in Chicago, adding that some kind of insurance or backstop for customer funds is now needed.
Bart Chilton, a CFTC democratic commissioner, called on the U.S. Congress to establish an insurance fund to make up any shortfalls to customers in the futures world, similar to the Securities Investor Protection Corporation for securities and the Federal Deposit Insurance Corporation for banking.
If the regulatory and enforcement belt breaks, customers don't lose their pants, he said.
RISKY FOREIGN DEBT OFF LIMITS
Under the new CFTC rule, in cases where the brokerage firm is allowed to invest customer funds, the agency will permit them to invest in securities such as Treasuries, agency debt, corporate notes and commercial paper. Potentially risky foreign sovereign debt will no longer be permitted.
Transactions between affiliates of a company where the two entities exchange money or funds also are restricted by the new CFTC rule. Firms would still be able to enter into agreements using customer funds with an external third party.
The rule goes into effect 60 days after it is published in the Federal Register, the government's diary. Brokerages would have 180 days to be in compliance.
This rule is important, but the agency will look at additional ways to enhance customer protections, said Gary Gensler, the CFTC's chairman.
Gensler said the agency is reviewing how futures commission merchants are audited, their relationship with self-regulatory organizations, and their frequency of reporting to regulators.
Further, the CFTC is looking at increasing the transparency of brokerage-to-customer communication regarding how customer funds are invested.
The CFTC also approved on Monday a final rule outlining a formal registration system for foreign boards of trade that want to provide access to their system for members in the United States. Currently, there is no formal process, with approval granted by the CFTC through no-action letters.
In addition, a proposed rule that would detail a process for making a swap available to trade was passed.
(Reporting by Christopher Doering in Washington with additional reporting by David Sheppard in New York, 202-898-8394, editing by Bob Burgdorfer and Andrea Evans)