WASHINGTON The futures regulator on Wednesday adopted new protections for customer collateral posted in swap trades, and said it plans a broader look into client safeguards, as the search continues for hundreds of millions of dollars in missing MF Global customer money.
The Commodity Futures Trading Commission also proposed its draft of the Volcker rule that cracks down on banks' risky trading, a version similar to one introduced by four other regulators last October.
The measure to protect swap traders' collateral used in trades to reduce risk was approved by a 4-1 vote.
The rule was called for in the Dodd-Frank financial oversight law, but efforts to boost protection and segregation of customer collateral have gained momentum following the collapse of futures brokerage MF Global in October.
Investigators have estimated there is a $600 million to $1.2 billion shortfall of MF Global customer funds. Regulators have said it appears MF Global improperly diverted customer funds for the firm's use.
Thousands of MF Global customers, including many farmers who use futures to hedge risks, have had their money frozen.
Chairman Gary Gensler said the CFTC is expanding its look into the adequacy of customer protections, and may consider extending the swaps safeguards adopted on Wednesday to futures as well.
Futures are typically used by farmers and smaller traders to hedge risks, while over-the-counter swaps tend to be dominated by larger corporations and banks.
CFTC Republican Jill Sommers was the lone vote against the measure. She expressed concern the CFTC was taking "a piecemeal approach" to consumer protection by giving special treatment to swaps customers, but not those involving futures.
The rulemaking drew similar skepticism from Congress.
"Today's actions will do little to reassure the many farmers, who have lost their own property, that efforts to mitigate another MF Global are being factored into new rule changes," said House Agriculture Committee Chairman Frank Lucas.
"MISLEADING SENSE OF COMFORT"
The rule to protect swap traders' collateral, close to what the CFTC proposed in April, allows brokers to pool customer collateral but would prevent them from commingling the funds with their own capital.
It also lays out what happens in the event of a default. If one occurs by both the clearing member and one or more of its customers, the clearinghouse can only collect collateral of the defaulting member, or its own resources.
Each individual account would be legally protected and funds from non-defaulting members could not be tapped to cover losses from another firms' default.
Scott O'Malia, a Republican CFTC commissioner, warned the rule would not necessarily prevent another fiasco similar to MF Global.
"I believe that it is important to detail (our rule's) limitations, so that we do not offer market participants a misleading sense of comfort in light of the collapse of MF Global, Inc," said O'Malia, who voted for the rule despite his concerns.
The rule protects against fellow-customer risk. It does not protect against two other types: operational risk where an intermediary improperly segregates cleared swaps customer collateral, or investment risk where an intermediary experiences losses on its investment of cleared swaps customer collateral, which it cannot cover using its capital, he said.
Bart Chilton, a Democratic commissioner, pushed for further measures to protect U.S. investors and consumers, saying the "lessons of MF Global teach us that we don't have the luxury of time in making additional progress to protect customers."
Daniel Waldman, a partner with law firm Arnold & Porter and a former CFTC general counsel, said Wednesday's measure was a good first step.
"But a lot more will follow. They will need to address the MF (Global) issue" and improve protection for customer funds held by brokers, said Waldman.
The CFTC has finalized nearly two dozen rules, but it is behind on completing much of a regulatory framework for the $700 trillion over-the-counter derivatives market required under the Dodd-Frank law. Many of the high-profile and controversial rules remain.
The CFTC also voted 3-2 to propose its version of the Volcker rule that is designed to prevent U.S. banks from trading with their own funds and prohibit banks from investing in or sponsoring, beyond a small amount, hedge funds or private equity funds.
It would have the most impact on large banks such as Goldman Sachs and Morgan Stanley.
The CFTC said its proposal largely mirrors an October proposal from the Federal Reserve, Securities and Exchange Commission, Federal Deposit Insurance Corp and the Office of the Comptroller of the Currency that is now open to public comment.
The CFTC's proposal, however, includes about a dozen questions asking whether certain provisions of the joint Volcker rule should not apply to banking entities regulated by the CFTC. The proposal will be open to a 60-day public comment period.
O'Malia and Sommers voted against the proposal. Sommers said the CFTC hasn't taken enough time to consider all of its implications, while O'Malia said the proposal could deter smaller banks from serving a market-making function while reducing the capacity of large dealers to provide liquidity.
The CFTC also approved on Wednesday rules for registration of swap dealers and major swap participants, and business conduct standards for swap dealers and major swap participants with counterparties.
The futures regulator has tentatively scheduled a rule-making meeting for January 25 when the CFTC is expected to vote on joint rules with the Securities and Exchange Commission on defining a swap dealer and a major swap participant.
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