The US Congress has finally passed the Dodd-Frank Act, an
elaborate (and sometimes incoherent) response to the meltdown
in financial markets during 2008 and 2009, which required a
federal rescue package running into hundreds of billions of
The new law readily acknowledges that the bulk of this
emergency occurred in recesses of the financial system that had
been liberated from pesky regulation because they were run by
the best and the brightest among us.
The markets and professionals that remained under regulation
required exactly zip from the state. So, the latter are safe
from the clampdown, right, since they did not participate in
First, there is a hint of the Congress’s sense
of humour or playfulness in the Act. It prohibits trading
futures or options on movie box office receipts. The ban was
included at the behest of the Motion Picture Association of
America – a body seldom confused with the national
It is unclear why this step was taken, as movie box office
receipts are only the second asset to be categorically banned
by statute from US futures markets. The other forbidden fruit
is onions, which were the subject of my article for FOW 10
years ago, entitled Allium cepa Libre!
CFTC to set position limits
Next, the law awards the task of setting speculative
position limits to the Commodity Futures Trading
In the past, that responsibility was shared between the CFTC
and exchanges. The CFTC prescribed "spec limits" for farm
products, while the exchanges set them for all other futures
The system of limits included soft "accountability
thresholds" in non-delivery months that triggered more intense
surveillance by the exchange but did not necessarily involve a
cap on position size.
Now the CFTC will be the final arbiter, although the
exchanges can also continue to impose limits if they are
stricter than the federal standards.
In a move with uncertain ramifications, the CFTC has also
been assigned a more activist role in setting minimum and
maintenance margins for listed futures and options.
Over nearly 50 years of personal observation, I have found
that the exchanges defend no power more aggressively
than their right (theirs alone, barring an emergency) to set
The exchanges have always feared that federal intervention
on margins, which might be politically motivated, could disrupt
the role of supply and demand in determining prices. Now, the
CFTC may invoke its authority to alter exchange rules in an
effort to pressure changes in margin levels.
And, while the CFTC’s authority is expanding,
at the same time it is threatened, by a provision in the new
law that appears to allow the Federal Energy Regulatory
Commission to regulate certain markets – including
futures and options – involving energy products. The
trades concerned are those conducted either bilaterally or on
markets owned or controlled by FERC-regulated regional
transmission organisations or independent system operators.
While FERC does not appear to gain any authority over
CFTC-regulated energy futures or options markets, it may now be
able to develop a parallel universe of markets in competition
with the New York Mercantile Exchange, ICE Futures and
In that case, there will be growing pressure (as there is
with respect to common CFTC-SEC matters) to harmonise the two
agencies’ policies, standards and interpretations,
further compromising what since 1975 had been the
CFTC’s sole and exclusive jurisdiction over this
Finally, a new notion of market manipulation could emerge,
as the Congress has imposed on the CFTC a standard of
"manipulative or deceptive device or contrivance", borrowed
from the SEC’s statutes.
Until now, the courts construing the CFTC law have held that
proving manipulation in futures and options markets requires
proof that the culprit deliberately set about to skew
The SEC standard is more subtle. If the conduct is found to
be deceptive, a court is allowed to deduce from the totality of
the evidence that the accused knew or should have known that
prices would be affected by its actions.
The tougher CFTC standard discouraged regulators and private
claimants from suing for manipulation unless the offender had
been caught with a smoking gun. Claimants may become more
aggressive if the burden of proof is lowered.
Speculators, in particular, may grow wary of trading in
these markets if they fear that their losing transactions will
go unnoticed, while their profitable activities are examined
with a microscope by both the government and the private
Is my licence good any more?
New licensing rules for 'swap dealers’ and
'major swap participants’ could raise doubts about
whether other types of CFTC licences in use for decades may no
longer be valid.
Registered floor traders who make markets on regulated
exchanges can now trade listed swaps – but, in doing
so, they might inadvertently become swap dealers, which would
entail capital requirements and many other duties that have not
applied to floor traders.
Or the operator of a commodity pool registered with the
CFTC, which manages a large amount of swaps, could become a
major swap participant, bringing many new responsibilities.
And so, after sparing the American taxpayer many billions of
dollars in bailout money, and despite being used by the
Congress as the principal model for reform of the
over-the-counter derivatives business, the CFTC-regulated
futures and options market is suffering its own lashing.
The adage "no good deed goes unpunished" comes to mind.
Philip McBride Johnson is head of the listed derivatives
regulatory practice at Skadden, Arps, Slate, Meagher & Flom
in Washington and a past chairman of the Commodity Futures