CFTC Seeks Public Comment on a Proposal on Investment of Customer Funds

The U.S. Commodity Futures Trading Commission (CFTC) has announced an upcoming consultation on proposed revisions to the regulations governing the safeguarding and investment of client funds by futures commission merchants (FCMs) and derivatives clearing organizations (DCOs). Specifically, the CFTC seeks to expand the scope of permissible investments by FCMs and DCOs, replace the London InterBank Offered Rate (LIBOR) with SOFR, the Secured Overnight Financing Rate, as a benchmark for certain adjustable rate securities that qualify as permissible investments, and remove the obligation of depositories holding customer funds to grant the Commission read-only electronic access to transaction and account balance information. The key provisions of the proposed modifications are briefly described below; for more detailed, comprehensive information, please refer to the enclosed legal document.
#### Key proposed revisions
(1) Investments in foreign sovereign debt: The CFTC proposes to add sovereign debt of Canada, France, Germany, Japan, and the United Kingdom to the list of permissible instruments that FCMs and DCOs may invest customer funds in subject to the following conditions and limitations:
– the FCM or DCO has balances in customer accounts denominated in the currencies of those countries;
– the two-year credit default spread of the issuing government does not exceed 45 BPS; and
– the dollar-weighted average time-to-maturity of investments in these debt instruments is no more than 60 calendar days.
(2) Expansion of permissible counterparties: In an effort to permit engagements in repurchase transactions for customer fund investments, the CFTC proposes to expand the list of permissible counterparties which are currently subject to stringent insurance and registration requirements. Specifically, the Commission would add
– various foreign central banks, including the European Central Bank and the central banks of Canada, France, Germany, Japan, and the United Kingdom, to the list of permissible counterparties; and
– foreign banks and foreign broker-dealers to the list of permissible counterparties provided that they meet certain requirements such as holding regulatory capital of $1 billion or more or being located in a „money center country as defined in Regulation 1.49“.
(3) Investments in ETFs: To provide more flexibility to FCMs and DCOs in their investments, yet – at the same time – limit the credit, default, and liquidity risks of the invested instruments and thus the risks of investing firms, the CFTC proposes to permit ETF investments so long as the following conditions are met:
– the ETF operates as a registered investment company under the Investment Company Act of 1940;
– the ETF is a passively managed ETF which tracks the performance of a published index focused on short-term U.S. Treasury securities with a remaining maturity of 12 months or less, issued or unconditionally guaranteed by the U.S. Department of the Treasury;
– the ETF invests a minimum of 95% of its assets in securities that constitute the U.S. Treasury securities as included in the index it aims to replicate.
– the ETF allows its interests to be redeemed in cash by an FCM or DCO; and
– „The ETF’s interests are acceptable as performance bond by a derivatives clearing organization“.
(4) Removal of existing permissible investments: Due to their higher inherent risks and thus potential investment risks of DCOs and FCMs, the Commission proposes to remove corporate notes, corporate bonds, and commercial paper from the list of permissible investments.
(5) Replacement of the LIBOR benchmark in adjustable rate securities: This replacement is only formal in nature, as LIBOR has ceased to exist (excluded some synthetic versions) and needs to be replaced with other benchmark rates. In this context, the CFTC would include all adjustable rate securities that reference the SOFR as the related benchmark for determining interest rates on the securities.
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To conclude, it shall be noted that the Commission is also proposing an amendment to Regulation 1.25(a)(1)(vii) to narrow the qualification of money market funds (MMFs) in which DCOs and FCMs may invest in, specifically limiting it to „government money market funds“. This adjustment aligns with recent SEC amendments concerning MMFs, which refines the definition of MMFs to include funds that invest predominantly in cash, government securities, and fully collateralized repurchase transactions.