Tag Archives: CPO

Recent Issues with NFA Annual Questionnaire

As we discussed in an earlier post on NFA Annual Questionnaire, NFA Member Firms are required to complete the questionnaire on an annual basis.  The information helps the NFA in a variety of ways and the NFA encourages members to update their questionnaire on a regular basis, although firms are only required to complete it, at a minimum, on the anniversary of their NFA Membership date.

Number of Half-turn Trades Issue

One issue that we are seeing clients deal with is the last question which applies to commodity trading advisors (CTAs) and commodity pool operators (CPOs).   The question is as follows:

For CTAs and CPOs only: Provide the following information for accounts held by CTAs and/or CPOs:

How many total domestic futures and options trades (half-turns) did your firm place directly with an FCM in the last 12 months? Please include trades for customer, commodity pool (both regulated pools and pools exempt pursuant to CFTC Part 4 Regulations) and proprietary accounts, but do not include trades that were actually placed by another money manager on behalf of any of these accounts.

The issue is that the question asks for the total amount of half-turn trades were completed over the last 12 months.  This could be an absolutely huge number and it would be onerous for a CTA or a CPO to go back and actually count each trade (unless the broker/clearing firm was keeping track for the CTA or CPO).  Accordingly, I have now talked with the NFA twice about this issue and they have confirmed that an approximate or estimated number is sufficient for the purposes of the questionnaire.  While such informal guidance is not binding, it seems like the NFA wants to have a general idea of the trading volumes and is not going to “ding” a manager if the exact number is not determined.

Issues for Forex CTAs and Forex CPOs

Even before the forex registration regulations were proposed, many forex-only managers registered with the CFTC as either forex CTAs or CPOs.  I asked the NFA compliance department how such managers should answer the above question as would not make sense in the spot forex context.  The NFA said that such managers should answer the above question by placing a 0 (zero) in the appropriate box (assuming there was only spot forex trading).

If you have other questions or issues when you are completing the annual questionnaire, you can either call the NFA or your compliance professional.  Also, please let us know what your issues are so we can update this article accordingly.

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Other related NFA compliance articles include:

Bart Mallon, Esq. runs the Hedge Fund Law Blog and provides hedge fund information and manager registration services through Cole-Frieman & Mallon LLP He can be reached directly at 415-868-5345.

NFA Self-Examination Checklist 2010 | FCMs, IBs, CPOs and CTAs

Easy Step by Step Guide for NFA Member Firms

NFA Member Firms are all required to complete a yearly self-examination checklist to ensure that the Member Firm is complying with all the NFA Rules (as well as the CFTC Regulations and other applicable laws).  The NFA has provided some resources on their website.  We believe that the resources are good, but they are not easy to use for NFA Member Firms.  Accordingly, Mallon P.C. has reworked the forms into a more easy-to-use format.  Below is a description on how you should proceed with this process along with the various checklists that each Member Firm should print off and complete.

All of the checklists below are based on, and contain the same information, as the NFA checklists which can be found here.

Overview of Process

The whole process should take anywhere from 1 to 3 hours (or more) depending on the exact structure of the NFA Member Firm.  Firm authorized personnel should complete the following steps:

  1. Print off the General Checklist
  2. Print off the Registration Specific Checklist
  3. Print off the Attestation Sheet
  4. Go through the checklists step by step and write notes and initial the appropriate areas.  If a certain area is not applicable, write N/A.
  5. Sign the Attestation Sheet
  6. File the Checklists according to the Firm’s internal compliance procedures

If there are compliance issues which arise during the course of the self-examination process, please record the issue and how the issue has been or will be addressed.  Do not try to cover up the issue – the NFA is more interested in the fact that a firm identifies and appropriately deals with compliance issues than a firm that has a perfect self-exam checklist (through a cover-up).  Do not be afraid to take ample notes in the appropiate places on the checklist – this will show the NFA examiners that the Firm is committed to thinking about the relevant compliance issues.

* Note: there are other yearly compliance procedures that a firm will need to complete in addition to the self-examination checklist.  For more information, please see the Mallon P.C. NFA Compliance Guide or contact your compliance consultant.  Please note that the compliance guide may not cover all compliance requirements.

Checklists

Each Member Firm will need to complete at least two checklists – (1) a general NFA Member Firm checklist and (2) a specific registration category checklist (i.e. FCM, IB, CPO, CPA).

General Checklist

Registration Specific Checklist

Attestation

Each Member Firm will need to complete an attestation sheet which acknowledges that the Firm has completed the annual self-examination checklists.

Appendices

Each of the checklists makes reference to certain appendices.  Below we have created links to those appendices.

Acronyms

Each of the checklists include acronyms.  We have listed them below for your convenience.

  • AML – Anti-Money Laundering
  • AP – Associated Person
  • BASIC – Background Affiliation Status Information Center
  • BSA – Bank Secrecy Act
  • CIP – Customer Identification Program
  • CRD – Central Registration Depository
  • DSRO – Designated Self-Regulatory Organization
  • FATF – Financial Action Task Force
  • FIFO – First-in, First-out
  • FinCEN – Financial Crimes Enforcement Network
  • NAV – Net Asset Value
  • NCCT – Non-Cooperative Countries and Territories
  • OFAC – Office of Foreign Assets Control
  • SAR – Suspicious Activity Report
  • SDN – Specially Designated Nationals
  • SPAN – Standard Portfolio Analysis

Rules & Regulations

Some of the checklists have references to certain CFTC Regulations and NFA Rules.  We have listed them below for your convenience.

  • CFTC Part 4 Regulations
  • CFTC Regulation 160
  • CFTC Interpretation #10
  • NFA Compliance Rule 2-7
  • NFA Compliance Rule 2-29
  • NFA Compliance Rule 2-30
  • NFA Bylaw 1301
  • Securities Exchange Act of 1933 – Sections 9(a), 9(b), 10(b)

Forms

Some of the checklists have references to forms and these are included below.

  • CFTC Form 40
  • CFTC Form 8-T
  • Form U5

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Other related NFA compliance articles include:

Bart Mallon, Esq. of Cole-Frieman & Mallon LLP runs the Hedge Fund Law Blog.  He can be reached directly at 415-868-5345

CFTC Provides Annual Guidance to CPOs

Annual Report Guidance for Commodity Pool Operators

In a recent release, which we have reprinted in full below, the CFTC reminds CPOs of their annual reporting requirements under Regulation 4.22.  The release includes a link to the 2010 CPO Annual Guidance Letter.  In general the letter provides another reminder to CPOs to file their annual reports with the NFA and provide a copy to the investors in the pool.  I have outlined below the major parts of the letter.

General Issues to consider

  • Commodity pool annual reports must be distributed to pool participants within 90 calendar days of the pool’s fiscal year end.  For most funds this means by March 31, 2010.
  • Commodity pool annual reports must be filed with the NFA within 90 clendar days of the pool’s fiscal year end.  For most funds this means by March 31, 2010.
  • All documents must be filed electronically through the NFA’s filing system.
  • Extensions are available in certain circumstances.

Other Issues

For groups which have different or more complex structures, additional considerations need to be addressed.  Such groups include:

  • Master/feeder commodity pool structures
  • Commodity pool fund of funds
  • Offshore commodity pools
  • CPOs claiming an exemption under Regulation 4.13
  • Reports of commodity pools which are liquidating
  • Commodity pools established as a series structure (such as a series LLC)
  • Commodity pools which invest in non-exchange traded instruments may have additional issues

Moreover, the letter includes references to the recently amended CPO relations.

If a CPO will not be able to file on time, the CPO should file for an extension.  “Automatic” extensions can be granted to CPOs to fund of fund structures.  If you have questions with making a filing, please feel free to contact Cole-Frieman & Mallon LLP. The following press release can be found here.

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CFTC’s Division of Clearing and Intermediary Oversight Provides Annual Report Guidance to Commodity Pool Operators

Washington, DC — The Commodity Futures Trading Commission’s Division of Clearing and Intermediary Oversight has issued its annual guidance letter to registered commodity pool operators (CPOs). The letter is intended to assist CPOs and their public accountants in complying with the Commission’s regulations on the preparation and filing of commodity pool annual financial reports.

The highlights contained in this year’s letter include:

  • Recent amendments to Commission regulations pertaining to various reporting issues;
  • Annual report filing procedures and due dates;
  • Special considerations that apply to filings made for Master/Feeder and Fund of Funds structures;
  • Use of International Financial Reporting Standards in lieu of U.S. generally accepted accounting principles;
  • Reporting requirements for pools in liquidation;
  • Reporting requirements for series funds with limitation of liability among the different series; and
  • Various accounting developments that may impact report preparation.

For more information on CPO Annual Guidance Letter 2009, please see the Related Documents link.

Copies of the letter also may be obtained by contacting the Commission’s Office of the Secretariat, Three Lafayette Centre, 1155 21st Street, N.W., Washington, D.C. 20581, (202) 418-5100.

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Other related compliance articles for CPOs and CTAs include:

Bart Mallon, Esq. runs the Hedge Fund Law Blog.  He can be reached directly at 415-868-5345.

NFA Annual Questionnaire

Reminder to NFA Member Firms

As part of the annual processes and procedures NFA Members will need to make sure that they complete the NFA Annual Questionnaire.  As discussed below in the NFA’s most recent notice to members, it is important that NFA Members complete the questionnaire because some of the answers will appear as BASIC entries sometime within the first half of 2010 (for an image of this, please see Notice to Members I-10-02, reprinted in full below).  Below we have provided an overview of the major items which are addressed on the questionnaire.  NFA Members are urged to complete the NFA’s Self Exam Checklist prior to logging in to complete the questionnaire.

Questionnaire Items

The annual questionnaire actually requires the NFA Member to provide fairly detailed information on the nature of the Member’s business and the extent in which the Member participates in certain aspects of the industry such as trading in the forex markets.  Each firm will need to complete a section called “Firm & DR Information” as well as one section (or multiple sections if applicable) devoted to CTA, CPO, IB, or FCM specific questions.  Below we’ve outlined the major categories.

CTA Questionnaire

The central part of the CTA questionnaire focuses on information related to the trading program.  Such information requested includes: nominal AUM, forex account information, number of accounts trading Securities Futures Products (SFPs)*, most recent disclosure document date, whether any exemptions exist, types of investors, etc.

* A securities futures contract is a legally binding agreement between two parties to purchase or sell in the future a specific quantity of shares of a single equity security or narrow-based securities Index (e.g. products traded on One Chicago or NQLX). It does not include broad-based indices such as the S&P 500 or Dow.

CPO Questionnaire

The central part of the CPO questionnaire focuses on information related to the commodity pool.  Such information requested includes: pool trading information, question on restrictions (if any), forex trading information (if applicable), SFP trading (if applicable), most recent disclosure document date, whether any exemptions exist, etc.

Firm & DR Information

In the Firm & DR Information section you will need to include certain information on the preparer (name, title, phone, email) and you will need to complete firm information and disaster recovery information.

Firm Information

For the firm information there are a number of questions regarding the number of accounts to which the firm is currently providing advice, whether the firm is engaged in forex activities, the extent to which the firm utilizes advertising (tv/radio, print, internet), and/or whether the firm is registered in other capacity.  Importantly, there is a question regarding whether the firm has completed the self-exam checklist within the last 12 months.

Disaster Recovery Information

All NFA Member firms are required to have addressed disaster recovery.  For the purposes of the questionnaire, Members are required to provide primary and secondary contact information.  Specifically, the instructions are as follows:

For purposes of business continuity and disaster recovery, members are required to provide NFA with the name and contact information for one or two persons who NFA can contact during an emergency. Since this information will serve as an alternative contact in the event you are unable to continue doing business at your main location, the contact information that you provide should be different from that of your main location.

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Notice to Members I-10-02

January 6, 2010

Reminder to all Members to complete new questions in Annual Questionnaire assessing Member’s futures-related and off-exchange forex business

On November 30, 2009, NFA issued Notice to Members I-09-21 [HFLB Note: reprinted directly below] requesting all Members to complete a series of new questions located in the Annual Questionnaire assessing their futures-related business. Although some NFA Members have complied with this request, many have not. It is critical that Members access and complete questions in the Firm and DR Information section of the Annual Questionnaire as soon as possible. This applies not only to Members trading on-exchange futures products but also Members trading in the off-exchange foreign currency (forex) market.

Beginning in early 2010 NFA’s BASIC system will display information reflecting whether firms are actively engaged in futures-related business activity or not. If the questions are not answered, the answers will default to no activity, which is what will be displayed in BASIC, as illustrated below.

For additional information and instructions on accessing the Annual Questionnaire, click here.

If you have any questions, please contact NFA’s Information Center at 800-621-3570 or 312-781-1410.

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Notice I-09-21

November 30, 2009

NFA adds new questions to Annual Questionnaire to assess Member’s futures-related business

NFA has approximately 500 firms that are NFA Members but have represented to NFA via their Annual Questionnaire that they are not doing any business that requires membership (“Inactive firms”). Almost universally, these Members indicate that they maintain their membership because they may do business in the future.

Since 2006, NFA has taken several Member Responsibility Actions against Member firms that had told NFA they were inactive. These actions were taken after NFA obtained information from reviewing the internet, through contacts with other NFA Members, and by receiving customer complaints suggesting that these firms were in fact active.

Due to these disciplinary actions, NFA’s Board of Directors requested that beginning in early 2010 NFA’s BASIC system display information reflecting whether firms are actively engaged in futures-related business activity or not. Presumably, if a Member is identified in BASIC as not conducting futures-related business, this will raise a “red flag” to potential customers who are being solicited by an Inactive Firm.

Specifically, BASIC will contain information regarding whether or not the Member has on-exchange customer accounts, manages customer accounts, operates pools, is engaged in retail off-exchange foreign currency activities and/or is soliciting customer business. This information will be based solely on information that Member firms provide in their responses to the questions in the Firm and DR Information section of the Annual Questionnaire.

NFA has re-designed this portion of the Annual Questionnaire by adding new questions and moving certain questions from other sections. Firms may update the answers in the Firm and DR Information section of the Annual Questionnaire at any time.

It is critical that Members access and complete questions in the Firm and DR Information section of the Annual Questionnaire as soon as possible. If the questions are not answered, the answers will default to no activity, which is what will be displayed in BASIC.

Please follow these instructions to access the Annual Questionnaire and provide the required information.

1. Open the Questionnaire system using this link: https://www.nfa.futures.org/AppEntry/Redirect.aspx?app=SPECIAL_QUESTION

2. Enter your ORS ID and password to logon.

3. From the “Online Questionnaire Index” screen, select “Firm and DR Information” under “Questionnaire Type.” (In addition, if you have not completed your most recent Questionnaire, you should update the previous version at this time.)

4. Update the Preparer Information on the next screen, if necessary, and then click “Next.”

5. To respond to this special request,

a. Answer the questions listed at the top of the screen under the heading “Please address the following questions regarding you firm’s business operations”.

b. After answering the applicable question(s), scroll to the bottom of the screen and click the “Submit Filing” button.

c. The system will then confirm that you submitted the updated Questionnaire to NFA.

If you have any questions about this Notice, please contact NFA’s Information Center at 800.621.3570 or 312.781.1410.

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Other articles related to CTAs and CPOs include:

If you are a manager or firm that needs to register as a CTA or CPO, or if you are contemplating registration, please contact Bart Mallon, Esq. of Cole-Frieman &  Mallon LLP at 415-868-5345.

CPO Reporting Requirements | Commodity Pool Operator Compliance

CFTC Regulation 4.22 Overview

CFTC registered commodity pool operators have a number of regulatory and compliance issues to be aware of.  In addition to a having a compliance program which addresses the business and regulatory issues applicable to the manager, one of the more important compliance requirements is found in CFTC Regulation 4.22 which provides the reporting framework with respect to (i) periodic reports to investors and (ii) annual reports to investors and the NFA.  While many hedge fund administration firms provide a monthly or quarterly report/statement, generally those reports/statements do not provide the detailed information that is required for commodity pools.  This article provides an overview of the information required to be included in the periodic and annual statements and will also discuss other aspects of the regulation.

Overview of the Statements

Generally CPOs are required to distribute, within 30 days of end of the required period (see below), an account statement to each investor the fund.  The account statement must included an itemized “statement of operations” and “statement of changes in net assets” which is presented and computed in accordance with generally accepted accounting principles (“GAAP”).

The statement of operations must separately itemize the following:

  • Realized net gain/loss on commodity interest positions
  • Unrealized net gain/loss on commodity interest positions
  • Total net gain/loss on other transactions (including interest and dividends earned), unless the gain/loss from trading are part of a related trading strategy (see 4.22(e)(3))
  • Total management fees during period
  • Total advisory fees during period (including performance fees/allocations)
  • Total brokerage commissions during period
  • Total of other fees for investment transactions
  • Total of other expenses incurred or accrued by the fund during period

Note: most of the above items must be itemized according to 4.22(e)(1) and special allocations should be noted according to 4.22(e)(2).

The statement of changes in net assets must separately itemize the following:

  • Fund NAV at beginning of period
  • Fund NAV at end of period
  • Total contributions to fund during period
  • Total redemptions (voluntary or involuntary) during period
  • Total fund income/loss during period
  • Total value of investor’s interest in the fund at the end of the period

Monthly or Quarterly Commodity Pool Reporting

For funds which have more than $500,000 of assets, the account statements must be sent to investors on a monthly basis.  The account statement is due to the investor within 30 days of the end of the month.  For funds which have less than $500,000 of assets, the account statements must be sent to investors on (at least) a quarterly basis.  The account statement is due to the investor within 30 days of the end of the quarter.  In both cases, a final report for the year does not need to be sent to fund investors if the CPO’s annual report (described below) is sent to pool participants within 45 calendar days after the end of the fiscal year.

Annual Reporting Requirement

The CPO will need to provide, within 90 days after the end of the fund’s fiscal year (or within 90 days of the cessation of trading if the fund closes), an annual report to (i) each investor in the fund and (ii) the NFA.  The annual report must be presented and computed in accordance with GAAP consistently applied and must be audited by an independent public accountant.*

Annual report must include:

  • Fund NAV for the preceding two fiscal years
  • Total value of investor’s interest in the fund at the end of the preceding two fiscal years
  • Statement of Financial Condition for the fund’s fiscal year and preceding fiscal year
  • “statement of operations” and “statement of changes in net assets”
  • Footnotes if required to make statements not misleading (including certain information on underlying funds if the fund invests in other commodity pools)
  • Certain information if there is more than onve ownership class or series.

In the event that the CPO will not be able to file the annual report with the NFA within the 90 day period, the CPO can file an extension under certain circumstances.  It is very important that the CPO provides the annual report on time or files for the exemption.  If a CPO cannot file the report within the time frame required and does not file for the exemption, the NFA will take action against the CPO see CFTC Fines CPOs For Late Annual Reports.

*Note: if the fund is organized offshore then the CPO may be able to prepare and calculate the annual report in accordance with International Financial Reporting Standards issued by the International Accounting Standards Board, please generally see 4.22(d)(2).

Statements Required to be Signed by Principals

Both the account statement and the annual report must contain a signed affirmation (usually provided by a principal or associated person of the CPO) that the information contained in the account statement is accurate and complete.

Such information shall include:

  • Name of individual signing
  • Capacity of individual signing
  • Name of the CPO
  • Name of the fund

Other Items

Regulation 4.22 is intricate and there are many specifics for certain fund managers.  Specifically, if a commodity fund invests in other commodity funds there are certain rules which I have not covered in-depth in this overview.

With regard to the fiscal year, most commodity pools will elect to have their fiscal year be the calendar year.  A fund can elect to have the fiscal year end on a different date under certain circumstances, see generally 4.22(g).

With regard to account statements and annual reports, these can be provided to fund investors electronically (either through email or through a password-protected website).  In the event a fund manager wants to provide statements in this way, the manager will need to make sure the commodity pool’s offering documents specifically discusses this possibility.  Additionally, the manager should make sure the fund’s subscription documents include a specific place for the investor to consent to the electronic delivery of the account statement or annual report.

Conclusion

Regulation 4.22 is detailed and, for some groups, complicated.  The NFA has shown a willingness to send a message to firms which do not follow NFA rules or CFTC regulations.  If you are a CPO and have questions with regard to your account statements or annual reports, please feel free to contact us.

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Other related hedge fund law articles include:

Bart Mallon, Esq. of Cole-Frieman & Mallon LLP runs the Hedge Fund Law Blog as well as the forex registration website.  He can be reached directly at 415-868-5345.

CFTC Amends CPO Reporting Regulations

CFTC Regulation 4.22 Amended

Earlier this year the Commodities Futures Trading Commission (“CFTC”) proposed amendments to certain Part 4 Regulations.  Last week, after a lengthy comment and revision period, the CFTC published the amendments in the Federal Register.  The effective date of the amendments is December 9, 2009 and will apply to commodity pool annual reports for fiscal years ending December 31, 2009 and later.  [HFLB note: as we have discussed earlier, spot forex hedge fund managers generally are not required to be registered as forex CPOs with the CFTC.  However, when the forex registration rules go into effect, such forex CPOs are going to need to be aware of these reporting requirements.]

The following press release can be found here. The full discussion of the CFTC’s amendment making process and the amendments can be found in Federal Register at 74 FR 57585.  For more information regarding commodity trading and regulation, please see our CTA/CPO Registration and Compliance Guide.

The full amended text of CFTC Regulation 4.22 is reprinted below.

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Release: 5746-09
For Release: November 9, 2009

CFTC Adopts Amendments to Reporting Requirements for Commodity Pool Operators

Washington, DC —The Commodity Futures Trading Commission (CFTC) has adopted amendments to its regulations regarding periodic and annual reporting requirements applicable to commodity pool operators (CPOs). The amendments:

  • specify detailed information that must be included in the periodic account statements and annual reports for commodity pools with more than one series or class of ownership interest;
  • clarify that the periodic account statements must disclose either the net asset value per outstanding participation unit in the pool or the total value of a participant’s interest or share in the pool;
  • extend the time period for filing and distributing annual reports of commodity pools that invest in other funds;
  • codify existing Commission staff interpretations regarding the proper accounting treatment and financial statement presentation of certain income and expense items in the periodic account statements and annual reports;
  • codify exemptions staff has provided to CPOs that operate offshore funds that elected to use non-United States GAAP in the preparation of pool financial statements;
  • streamline annual reporting requirements for pools ceasing operation; and
  • clarify and update several other requirements for periodic and annual reports prepared and distributed by CPOs.

The amendments will become effective 30 days from publication in the Federal Register; changes that affect annual reporting requirements will be applicable to commodity pool annual reports for fiscal years ending December 31, 2009 and later.

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Full Text of Regulation 4.22 (effective December 9, 2009)

PART 4—COMMODITY POOL OPERATORS AND COMMODITY TRADING ADVISORS
Subpart B—Commodity Pool Operators

§ 4.22   Reporting to pool participants.

(a) Except as provided in paragraph (a)(4) or (a)(6) of this section, each commodity pool operator registered or required to be registered under the Act must periodically distribute to each participant in each pool that it operates, within 30 calendar days after the last date of the reporting period prescribed in paragraph (b) of this section, an Account Statement, which shall be presented in the form of a Statement of Operations and a Statement of Changes in Net Assets, for the prescribed period. These financial statements must be presented and computed in accordance with generally accepted accounting principles consistently applied. The Account Statement must be signed in accordance with paragraph (h) of this section.

(1) The portion of the Account Statement which must be presented in the form of a Statement of Operations must separately itemize the following information:

(i) The total amount of realized net gain or loss on commodity interest positions liquidated during the reporting period;

(ii) The change in unrealized net gain or loss on commodity interest positions during the reporting period;

(iii) The total amount of net gain or loss from all other transactions in which the pool engaged during the reporting period, including interest and dividends earned on funds not paid as premiums or used to margin the pool’s commodity interest positions;

(iv) The total amount of all management fees during the reporting period;

(v) The total amount of all advisory fees during the reporting period;

(vi) The total amount of all brokerage commissions during the reporting period;

(vii) The total amount of other fees for commodity interest and other investment transactions during the reporting period; and

(viii) The total amount of all other expenses incurred or accrued by the pool during the reporting period.

(2) The portion of the Account Statement that must be presented in the form of a Statement of Changes in Net Assets must separately itemize the following information:

(i) The net asset value of the pool as of the beginning of the reporting period;

(ii) The total amount of additions to the pool, whether voluntary or involuntary, made during the reporting period;

(iii) The total amount of withdrawals from and redemption of participation units in the pool, whether voluntary or involuntary, for the reporting period;

(iv) The total net income or loss of the pool during the reporting period;

(v) The net asset value of the pool as of the end of the reporting period; and

(vi)(A) The net asset value per outstanding participation unit in the pool as of the end of the reporting period, or

(B) The total value of the participant’s interest or share in the pool as of the end of the reporting period.

(3) The Account Statement must also disclose any material business dealings between the pool, the pool’s operator, commodity trading advisor, futures commission merchant, or the principals thereof that previously have not been disclosed in the pool’s Disclosure Document or any amendment thereto, other Account Statements or Annual Reports.

(4) For the purpose of the Account Statement delivery requirement, including any Account Statement distributed pursuant to §4.7(b)(2) or 4.12(b)(2)(ii), the term “participant” does not include a commodity pool operated by a pool operator that is the same as, or that controls, is controlled by, or is under common control with, the pool operator of a pool in which the commodity pool has invested.

(5) Where the pool is comprised of more than one ownership class or series, information for the series or class on which the account statement is reporting should be presented in addition to the information presented for the pool as a whole; except that, for a pool that is a series fund structured with a limitation on liability among the different series, the account statement is not required to include consolidated information for all series.

(6) A commodity pool operator of a pool that meets the conditions specified in paragraph (d)(2)(i) of this section and has filed notice pursuant to paragraph (d)(2)(ii) of this section may elect to follow the same accounting treatment with respect to the computation and presentation of the account statement.

(b) The Account Statement must be distributed at least monthly in the case of pools with net assets of more than $500,000 at the beginning of the pool’s fiscal year, and otherwise at least quarterly; Provided, however, That an Account Statement for the last reporting period of the pool’s fiscal year need not be distributed if the Annual Report required by paragraph (c) of this section is sent to pool participants within 45 calendar days after the end of the fiscal year. The requirement to distribute an Account Statement shall commence as of the date the pool is formed as specified in paragraph (g)(1) of this section.

(c) Except as provided in paragraph (c)(7) or (c)(8) of this section, each commodity pool operator registered or required to be registered under the Act must distribute an Annual Report to each participant in each pool that it operates, and must electronically submit a copy of the Report and key financial balances from the Report to the National Futures Association pursuant to the electronic filing procedures of the National Futures Association, within 90 calendar days after the end of the pool’s fiscal year or the permanent cessation of trading, whichever is earlier; Provided, however, that if during any calendar year the commodity pool operator did not operate a commodity pool, the pool operator must so notify the National Futures Association within 30 calendar days after the end of such calendar year. The Annual Report must be affirmed pursuant to paragraph (h) of this section and must contain the following:

(1) The net asset value of the pool as of the end of each of the pool’s two preceding fiscal years.

(2)(i) The net asset value per outstanding participation unit in the pool as of the end of each of the pool’s two preceding fiscal years, or (ii) The total value of the participant’s interest or share in the pool as of the end of each of the pool’s two preceding fiscal years.

(3) A Statement of Financial Condition as of the close of the pool’s fiscal year and preceding fiscal year.

(4) Statements of Operations, and Changes in Net Assets, for the period between (i) The later of: (A) The date of the most recent Statement of Financial Condition delivered to the National Futures Association pursuant to this paragraph(c); or (B) The date of the formation of the pool; and (ii) The close of the pool’s fiscal year, together with Statements of Operations, and Changes in Net Assets for the corresponding period of the previous fiscal year.

(5) Appropriate footnote disclosure and such further material information as may be necessary to make the required statements not misleading. For a pool that invests in other funds, this information must include, but is not limited to, separately disclosing the amounts of income, management and incentive fees associated with each investment in an investee fund that exceeds five percent of the pool’s net assets. The management and incentive fees associated with an investment in an investee fund that is less than five percent of the pool’s net assets may be combined and reported in the aggregate with the income, management and incentive fees of other investee funds that, individually, represent an investment of less than five percent of the pool’s net assets. If the commodity pool operator is not able to obtain the specific amounts of management and incentive fees charged by an investee fund, the commodity pool operator must disclose the percentage amounts and computational basis for each such fee and include a statement that the CPO is not able to obtain the specific fee amounts for this fund;

(6) Where the pool is comprised of more than one ownership class or series, information for the series or class on which the financial statements are reporting should be presented in addition to the information presented for the pool as a whole; except that, for a pool that is a series fund structured with a limitation on liability among the different series, the financial statements are not required to include consolidated information for all series.

(7) For a pool that has ceased operation prior to, or as of, the end of the fiscal year, the commodity pool operator may provide the following, within 90 days of the permanent cessation of trading, in lieu of the annual report that would otherwise be required by § 4.22(c) or § 4.7(b)(3):

(i) Statements of Operations and Changes in Net Assets for the period between—

(A) The later of: (1) The date of the most recent Statement of Financial Condition filed with the National Futures Association pursuant to this paragraph (c); or (2) The date of the formation of the pool; and (B) The close of the pool’s fiscal year or the date of the cessation of trading, whichever is earlier; and

(ii)(A) An explanation of the winding down of the pool’s operations and written disclosure that all interests in, and assets of, the pool have been redeemed, distributed or transferred on behalf of the participants;

(B) If all funds have not been distributed or transferred to participants by the time that the final report is issued, disclosure of the value of assets remaining to be distributed and an approximate timeframe of when the distribution will occur. If the commodity pool operator does not distribute the remaining pool assets within the timeframe specified, the commodity pool operator must provide written notice to each participant and to the National Futures Association that the distribution of the remaining assets of the pool has not been completed, the value of assets remaining to be distributed, and a time frame of when the final distribution will occur.

(C) If the commodity pool operator will not be able to liquidate the pool’s assets in sufficient time to prepare, file and distribute the final annual report for the pool within 90 days of the permanent cessation of trading, the commodity pool operator must provide written notice to each participant and to National Futures Association disclosing:

(1) The value of investments remaining to be liquidated, the timeframe within which liquidation is expected to occur, any impediments to liquidation, and the nature and amount of any fees and expenses that will be charged to the pool prior to the final distribution of the pool’s funds;

(2) Which financial reports the commodity pool operator will continue to provide to pool participants from the time that trading ceased until the final annual report is distributed, and the frequency with which such reports will be provided, pursuant to the pool’s operative documents; and

(3) The timeframe within which the commodity pool operator will provide the final report.

(iii) A report filed pursuant to this paragraph (c)(7) that would otherwise be required by this paragraph (c) is not required to be audited in accordance with paragraph (d) of this section if the commodity pool operator obtains from all participants written waivers of their rights to receive an audited Annual Report, and at the time of filing the Annual Report with National Futures Association, certifies that it has received waivers from all participants. The commodity pool operator must maintain the waivers in accordance with § 1.31 of this chapter and must make the waivers available to the Commission or National Futures Association upon request.

(8) For the purpose of the Annual Report distribution requirement, including any annual report distributed pursuant to §4.7(b)(3) or 4.12(b)(2)(iii), the term “participant” does not include a commodity pool operated by a pool operator that is the same as, or that controls, is controlled by, or is under common control with, the pool operator of a pool in which the commodity pool has invested; Provided, That the Annual Report of such investing pool contain financial statements that include such information as the Commission may specify concerning the operations of the pool in which the commodity pool has invested.

(d)

(1) The financial statements in the Annual Report must be presented and computed in accordance with generally accepted accounting principles consistently applied and must be audited by an independent public accountant. The requirements of § 1.16(g) of this chapter shall apply with respect to the engagement of such independent public accountants, except that any related notifications to be made may be made solely to the National Futures Association, and the certification must be in accordance with § 1.16 of this chapter, except that the following requirements of that section shall not apply:

(i) The audit objectives of § 1.16(d)(1) concerning the periodic computation of minimum capital and property in segregation;

(ii) All other references in § 1.16 to the segregation requirements; and

(iii) Section 1.16(c)(5), (d)(2), (e)(2), and (f).

(2)

(i) The financial statements in the Annual Report required by this section or by § 4.7(b)(3) may be presented and computed in accordance with International Financial Reporting Standards issued by the International Accounting Standards Board if the following conditions are met:

(A) The pool is organized under the laws of a foreign jurisdiction;

(B) The Annual Report will include a condensed schedule of investments, or, if required by the alternate accounting standards, a full schedule of investments;

(C) The preparation of the pool’s financial statements under International Financial Reporting Standards is not inconsistent with representations set forth in the pool’s offering memorandum or other operative document that is made available to participants;

(D) Special allocations of ownership equity will be reported in accordance with § 4.22(e)(2); and

(E) In the event that the International Financial Reporting Standards require consolidated financial statements for the pool, such as a feeder fund consolidating with its master fund, all applicable disclosures required by generally accepted accounting principles for the feeder fund must be presented with the reporting pool’s consolidated financial statements.

(ii) The commodity pool operator of a pool that meets the conditions specified in this paragraph (d)(2) may claim relief from the requirement in paragraph (d)(1) of this section by filing a notice with the National Futures Association, within 90 calendar days after the end of the pool’s fiscal year.

(A) The notice must contain the name, main business address, main telephone number and the National Futures Association registration identification number of the commodity pool operator, and name and the identification number of the commodity pool.

(B) The notice must include representations regarding the pool’s compliance with each of the conditions specified in § 4.22(d)(2)(A) through (D), and, if applicable, (E); and

(C) The notice must be signed by the commodity pool operator in accordance with paragraph (h) of this section.

(e)

(1) The Statement of Operations required by this section must itemize brokerage commissions, management fees, advisory fees, incentive fees, interest income and expense, total realized net gain or loss from commodity interest trading, and change in unrealized net gain or loss on commodity interest positions during the pool’s fiscal year. Gains and losses on commodity interests need not be itemized by commodity or by specific delivery or expiration date.

(2)

(i) Any share of a pool’s profits or transfer of a pool’s equity which exceeds the general partner’s or any other class’s share of profits computed on the general partner’s or other class’s pro rata capital contribution are ‘‘special allocations.’’ Special allocations of partnership equity or other interests must be recognized in the pool’s Statement of Operations in the same period as the net income, interest income, or other basis of computation of the special allocation is recognized. Special allocations must be recognized and classified either as an expense of the pool or, if not recognized as an expense of the pool, presented in the Statement of Operations as a separate, itemized allocation of the pool’s net income to arrive at net income available for pro rata distribution to all partners.

(ii) Special allocations of ownership interest also must be reported separately in the Statement of Partners’ Equity, in addition to the pro-rata allocations of net income, as to each class of ownership interest.

(3) Realized gains or losses on regulated commodities transactions presented in the Statement of Operations of a commodity pool may be combined with realized gains or losses from trading in non-commodity interest transactions, provided that the gains or losses to be combined are part of a related trading strategy. Unrealized gains or losses on open regulated commodity positions presented in the Statement of Operations of a commodity pool may be combined with unrealized gains or losses from open positions in non-commodity positions, provided that the gains or losses to be combined are part of a related trading strategy.

(f)

(1)

(i) In the event the commodity pool operator finds that it cannot distribute the Annual Report for a pool that it operates within the time specified in paragraph (c) of this section without substantial undue hardship, it may file with the National Futures Association an application for extension of time to a specified date not more than 90 calendar days after the date as of which the Annual Report was to have been distributed. The application must be made by the pool operator and must:

(A) State the name of the pool for which the application is being made;

(B) State the reasons for the requested extension;

(C) Indicate that the inability to make a timely filing is due to circumstances beyond the control of the pool operator, if such is the case, and describe briefly the nature of such circumstances;

(D) Contain an undertaking to file the Annual Report on or before the date specified in the application; and

(E) Be filed with the National Futures Association prior to the date on which the Annual Report is due.

(ii) The application must be accompanied by a letter from the independent public accountant answering the following questions:

(A) What specifically are the reasons for the extension request?

(B) Do you have any indication from the part of your audit completed to date that would lead you to believe that the commodity pool operator was or is not meeting the recordkeeping requirements of this part 4 or was or is not complying with the §4.20(c) prohibition on commingling of property of any pool with the property of any other person?

(iii) Within ten calendar days after receipt of an application for an extension of time, the National Futures Association shall:

(A) Notify the commodity pool operator of the grant or denial of the requested extension, or

(B) Indicate to the pool operator that additional time is required to analyze the request, in which case the amount of time needed will be specified.

(2) In the event a commodity pool operator finds that it cannot obtain information necessary to prepare annual financial statements for a pool that it operates within the time specified in either paragraph (c) of this section or § 4.7(b)(3)(i), as a result of the pool investing in another collective investment vehicle, it may claim an extension of time under the following conditions:

(i) The commodity pool operator must, within 90 calendar days of the end of the pool’s fiscal year, file a notice with the National Futures Association, except as provided in paragraph (f)(2)(v) of this section.

(ii) The notice must contain the name, main business address, main telephone number and the National Futures Association registration identification number of the commodity pool operator, and name and the identification number of the commodity pool.

(iii) The notice must state the date by which the Annual Report will be distributed and filed (the ‘‘Extended Date’’), which must be no more than 180 calendar days after the end of the pool’s fiscal year. The Annual Report must be distributed and filed by the Extended Date.

(iv) The notice must include representations by the commodity pool operator that:

(A) The pool for which the Annual Report is being prepared has investments in one or more collective investment vehicles (the ‘‘Investments’’);

(B) For all reports prepared under paragraph (c) of this section and for reports prepared under § 4.7(b)(3)(i) that are audited by an independent public accountant, the commodity pool operator has been informed by the independent public accountant engaged to audit the commodity pool’s financial statements that specified information required to complete the pool’s annual report is necessary in order for the accountant to render an opinion on the commodity pool’s financial statements. The notice must include the name, main business address, main telephone number, and contact person of the accountant; and

(C) The information specified by the accountant cannot be obtained in sufficient time for the Annual Report to be prepared, audited, and distributed before the Extended Date.

(D) For unaudited reports prepared under § 4.7(b)(3)(i), the commodity pool operator has been informed by the operators of the Investments that specified information required to complete the pool’s annual report cannot be obtained in sufficient time for the Annual Report to be prepared and distributed before the Extended Date.

(v) For each fiscal year following the filing of the notice described in paragraph (f)(2)(i) of this section, for a particular pool, it shall be presumed that the particular pool continues to invest in another collective investment vehicle and the commodity pool operator may claim the extension of time; Provided, however, that if the particular pool is no longer investing in another collective investment vehicle, then the commodity pool operator must file electronically with the National Futures Association an Annual Report within 90 days after the pool’s fiscal year-end accompanied by a notice indicating the change in the pool’s status.

(vi) Any notice or statement filed pursuant to this paragraph (f)(2) must be signed by the commodity pool operator in accordance with paragraph (h) of this section.

(g)

(1) A commodity pool operator may initially elect any fiscal year for a pool, but the first fiscal year may not end more than one year after the pool’s formation. For purposes of this section, a pool shall be deemed to be formed as of the date the pool operator first receives funds, securities or other property for the purchase of an interest in the pool.

(2) If a commodity pool operator elects a fiscal year other than the calendar year, it must give written notice of the election to all participants and must file the notice with the National Futures Association within 90 calendar days after the date of the pool’s formation. If this notice is not given, the pool operator will be deemed to have elected the calendar year as the pool’s fiscal year.

(3) The commodity pool operator must continue to use the elected fiscal year for the pool unless it provides written notice of any proposed change to all participants and files such notice with the National Futures Association at least 90 days before the change and the National Futures Association does not disapprove the change within 30 days after the filing of the notice.

(h)

(1) Each Account Statement and Annual Report, including an Account Statement or Annual Report provided pursuant to §4.7(b) or 4.12(b), must contain an oath or affirmation that, to the best of the knowledge and belief of the individual making the oath or affirmation, the information contained in the document is accurate and complete; Provided, however, That it shall be unlawful for the individual to make such oath or affirmation if the individual knows or should know that any of the information in the document is not accurate and complete.

(2) Each oath or affirmation must be made by a representative duly authorized to bind the pool operator, and

(i) for the copy of a commodity pool’s Annual Report submitted to the National Futures Association, such representative shall satisfy the required oath or affirmation through compliance with the National Futures Association’s electronic filing procedures, and

(ii) for a commodity pool Account Statement or Annual Report distributed to participants, a facsimile of the manually signed oath or affirmation of such representative may be used so long as the manually signed original is retained in accordance with §4.23.

(3) For each manually signed oath or affirmation, there must be typed beneath the signed oath or affirmation:

(i) The name of the individual signing the document;

(ii) The capacity in which he is signing;

(iii) The name of the commodity pool operator for whom he is signing; and

(iv) The name of the commodity pool for which the document is being distributed.

(i) The Account Statement or Annual Report may be distributed to a pool participant by means of electronic media if the participant so consents; Provided, That prior to the transmission of any Account Statement or Annual Report by means of electronic media, a commodity pool operator must disclose to the participant that it intends to distribute electronically the Account Statement or Annual Report or both documents, as the case may be, absent objection from the participant, which objection, if any, the participant must make no later than 10 business days following its receipt of the disclosure.

(Approved by the Office of Management and Budget under control number 3038–0005)

(Secs. 2(a)(1), 4c(a)–(d), 4d, 4f, 4g, 4k, 4m, 4n, 8a, 15 and 17, Commodity Exchange Act (7 U.S.C. 2, 4, 6c(a)–(d), 6f, 6g, 6k, 6m, 6n, 12a, 19 and 21; 5 U.S.C. 552 and 552b))

[46 FR 26013, May 8, 1981, as amended at 46 FR 63035, Dec. 30, 1981; 47 FR 57011, Dec. 22, 1982; 52 FR 41986, Nov. 2, 1987; 65 FR 81334, Dec. 26, 2000; 67 FR 77411, Dec. 18, 2002; 68 FR 47234, Aug. 8, 2003; 68 FR 52837, Sept. 8, 2003; 71 FR 8942, Feb. 22, 2006]

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Bart Mallon, Esq. of Cole-Frieman & Mallon LLP runs the Hedge Fund Law Blog as well as the forex registration website.  He can be reached directly at 415-868-5345.

CTA Expo 2009

Commodity Trading Advisor Conference

Next week there will be a conference for Commodity Trading Advisors held in Chicago at the Hotel Monaco.  The conference, entitled the CTA Expo 2009, will be held on Wednesday and will feature a variety of topics of interest to CTAs.  The agenda includes:

I will be representing my firm, Cole-Frieman & Mallon LLP, at the conference and I look forward to meeting with the different traders and service providers at the event.  Each entrant will also receive a CTA Directory which will include a “tear sheet” on all of the groups which attended.  Please see the Cole-Frieman & Mallon LLP description of CTA services.

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Event information can be found here.  There is also a CTA Expo LinkedIn Group.

CTA EXPO 2009
October 21, 2009
Hotel Monaco Chicago, Illinois

CTA EXPO consists of a day of roundtables and seminars for Commodity Trading Advisors on marketing strategy combined with an all day schedule of thirty minute presentations by individual CTAS to small groups of professional money raisers, asset allocators and interested clients who are seeking to identify additional trading talent.

The debut conference in 2008 sold out in advance and was attended by over thirty-five CTAs and over sixty people who registered as professional money raisers and asset allocators. We have increased capacity for 2009 and interest in this year’s event has already been tremendous and we are anticipating another sold out event.

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The hedge fund law blog is committed to providing useful and easy to understand information for CTAs and CPOs which can be found in our CTA and CPO Registration and Compliance Guide.  For more information on registration or compliance services please contact Bart Mallon, Esq. at 415-868-5345.

CTA and CPO Registration and Compliance Guide

Practical guidance for CTA and CPO firms

Commodity Trading Advisors (CTAs) and Commodity Pool Operators (CPOs) have been contacting me with greater regularity and we have decided to provide those firms with more detailed information on their registration and compliance requirements. Over the course of the next few weeks we will be continually updating this page with more legal and business guidance for CTAs and CPOs. Specifically, we will be providing information on the following topics:

CTA and CPO Registration – this article discusses the how-to’s of registration with the CFTC. The article details the general requirements for firms, principals, and associated persons. Included in this discussion is information on CTA/CPO exam requirements and an overview of the registration process through the NFA’s electronic registration system.

CTA and CPO Registration Exemptions – while the Commodities Exchange Act will generally require CTA and CPO firms to register with the CFTC, there are some important exemptions from the registration provisions. Review this article to see if your firm might be able to claim an exemption from the registration provisions.

CTA and CPO Compliance Overview – CTAs and CPOs are subject to a number of laws, regulations and rules. Not only must CTAs and CPOs follow CFTC laws and regulations, but as Members of the NFA, these groups must also follow all of the rules developed by the NFA. We will be discussing compliance best practices, major examination issues, major deadlines and the CTA/CPO compliance manual. Being prepared for an NFA examination is of great importance.

Recent NFA Actions against CTA and CPO Managers – the NFA and the CFTC have been quite active lately. In this article we will be discussing some of the most recent actions against NFA member firms. This article will also provide common-sense advice on what managers can do the protect themselves from examination deficiencies.

Important NFA Rules for CTA and CPO Firms – there are a number of rules which the NFA has regarding the conduct of CTAs and CPOs. In general CTAs and CPOs must hold themselves out with the utmost professionalism. This article will detail this and other important NFA rules.

CTA and CPO advertising – there are a number of important rules regarding advertising for CTAs and CPOs. CPOs, especially, must be careful about advertising because of the restrictions under Rule 506 of Regulation D, an exemption that many CPOs utilize in offering their fund interests. Websites will be touched upon in this post and will also be discussed in greater depth in a subsequent posting.

CTA and CPO websites – many CTA firms utilize the internet to advertise their services. CPO firms will also sometimes have a (minimal) internet presence. This article will detail the considerations that both CTA and CPO firms face when creating and maintaining an internet presence and how to deal with internet based inquiries from potential investors.

NFA Exam Requirements for CTAs and CPOs – individuals of NFA member firms will generally need to have a Series 3 exam license and potentially a Series 30 exam. Some individuals may need to have a Series 31 exam license and, potentially in the future, forex CTAs and CPOs will need to have a Series 34 exam license. This article will discuss these exams and the process an individual will go through in order to register to take the exams.

CTA Expo Blog – the unofficial blog of the CTA Expo most recently held in October of 2009.  Information for CTA managers on business, legal and compliance issues.  Included is a directory of CTA firms and service providers.

Forex CTAs and CPOs – the regulatory light has been focused on retail spot forex managers recently. Read this article to get up to speed on recent CFTC and NFA pronouncements regarding this area of the industry. We will also provide information on Forex IBs and Forex FCMs.

In addition to the above topics we are hoping to add others over time. We welcome all feedback and encourage you to leave comments below. We will also attempt to answer CTA and CPO frequently asked questions.

If you are a manager or firm that needs to register as a CTA or CPO, or if you are contemplating registration, please contact Bart Mallon, Esq. of Cole-Frieman & Mallon LLP at 415-868-5345.

NFA Rule Compliance Rule 2-45 Approved

CPOs Prohibited From Taking Loans From Commodity Hedge Funds

The CFTC just recently approved a new NFA compliance rule which prohibits commodity pool operators (CPOs) from taking loans from the commodity pools which they manage. Additionally, if a CPO currently has some sort of a loan arrangement with their fund, such CPO will have until October 22, 2009 to notify the NFA of the arrangement and surrounding facts and circumstances.

With regard to this new rule, we urge CPOs to take the following notes:

  • If you currently have a loan arrangement with your fund, please contact an attorney immediately. If you have such an arrangement and do not disclose this to the NFA within the allowed time frame, you will be subject to significant action in the future if it is found that you did not comply with this requirement.
  • CPOs should think about updating their commodity pool offering documents to include a discussion of this new prohibition (if it is not already discussed in the pool offering documents).
  • CPOs should update their compliance manuals and procedures to specifically address this issue – it is likely that this will be a specific examination item in the near future and a well prepared CPO should have procedures in place to ensure compliance.

Below we have reprinted the notice announcing the new rule as well as the interpretive release which provides color on the new rule. If you have any questions on this new rule and its applicability to you CPO or your commodity pool, please contact us.  Related article:

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Notice I-09-17

September 22, 2009

Effective Date of NFA Requirements Prohibiting Loans by Commodity Pools to CPOs and Related Entities

NFA has received notice that the Commodity Futures Trading Commission (“CFTC”) has approved new NFA Compliance Rule 2-45. This Rule and its accompanying Interpretive Notice, which both became effective September 11, 2009, prohibit commodity pools from making direct or indirect loans or advances of pool assets to the CPO or any other affiliated person or entity.

CPOs that currently have existing loan or advance arrangements between their pools and the CPO, the CPO’s principals, or related entities must notify NFA of these arrangements by October 22, 2009. The written notification to NFA should describe the reason for the loan or advance; indicate the interest the CPO is paying, if any; provide evidence that the loan or advance is secured by marketable, liquid assets; explain arrangements the CPO has made to pay back the loan or advance, if any; and include an executed copy of the loan or advance agreement. In addition, the CPO must provide NFA with written evidence that pool participants were informed about the loan or advance through a disclosure contained in the disclosure document, offering memorandum or other correspondence.

NFA will review the information provided to ensure, among other things, that participants received a full disclosure of the arrangements and that the loans and advances are secured by marketable liquid assets. Depending on the results of the review, NFA will determine if a CPO needs to take any additional steps regarding a particular loan or advance. NFA may also recommend disciplinary action if warranted by our review of the circumstances.

More information about NFA Compliance Rule 2-45, and the accompanying Interpretive Notice, can be found in NFA’s August 26, 2009 Submission Letter to the CFTC. Questions concerning these changes should be directed to Mary McHenry, Senior Manager, Compliance ([email protected] or 312-781-1420) or Tracey Hunt, Senior Manager, Compliance ([email protected] or 312-781-1284).

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August 26, 2009

Via Federal Express

Mr. David A. Stawick
Office of the Secretariat
Commodity Futures Trading Commission
Three Lafayette Centre
1155 21st Street, N.W.
Washington, DC 20581

Re: National Futures Association: Prohibition of Loans by Pools to Commodity Pool Operators and Related Parties – Proposed Adoption of Compliance Rule 2-45 and Interpretive Notice*

Dear Mr. Stawick:

On May 27, 2009, National Futures Association (“NFA”) submitted proposed new Compliance Rule 2-45 to the Commodity Futures Trading Commission (“CFTC” or “Commission”) for its review and approval. NFA hereby withdraws that submission and, pursuant to Section 17(j) of the Commodity Exchange Act, as amended, hereby resubmits the proposed Compliance Rule 2-45 and related Interpretive regarding prohibition of loans by pools to CPOs and related parties.

Compliance Rule 2-45 was approved by NFA’s Board of Directors (“Board”) on May 21, 2009, and the Interpretive Notice was approved by the Board on August 20, 2009. NFA is invoking the “ten-day” provision of Section 17(j) of the Commodity Exchange Act (“CEA”) and will make these proposals effective ten days after receipt of this submission by the Commission unless the Commission notifies NFA that the Commission has determined to review the proposals for approval.

PROPOSED AMENDMENTS
(additions are underscored)
COMPLIANCE RULES

* * *
PART 2 – RULES GOVERNING THE BUSINESS CONDUCT OF MEMBERS REGISTERED WITH THE COMMISSION
* * *

RULE 2-45. PROHIBITION OF LOANS BY COMMODITY POOLS TO CPOS AND AFFILIATED ENTITIES.

No Member CPO may permit a commodity pool to use any means to make a direct or indirect loan or advance of pool assets to the CPO or any other affiliated person or entity.

* * *
INTERPRETIVE NOTICES
* * *

COMPLIANCE RULE 2-45: PROHIBITION OF LOANS BY COMMODITY POOLS TO CPOS AND RELATED ENTITIES

NFA has recently taken a number of Member Responsibility Actions (MRAs) against commodity pool operators (CPOs) and CPO principals who directly or indirectly loaned or advanced pool assets to themselves or an affiliated person or entity. Many of these arrangements were used by these principals to purchase luxury items, while others went to related entities that did not have sufficient assets to repay the loans. In each case, the transaction resulted in significant losses to participants’ funds.

The Board of Directors has determined that direct or indirect loans or advances from pools to their CPOs, the CPO’s principals, or related entities should be prohibited. Therefore, NFA Compliance Rule 2-45 prohibits CPOs from permitting a commodity pool to use any means to make a direct or indirect loan or advance of pool assets to the CPO or any other affiliated person or entity.

NFA understands that a few pools may have made these types of loan or advance arrangements prior to Compliance Rule 2-45’s effective date. These CPOs are required to notify NFA of these existing arrangements within thirty (30) days of Compliance Rule 2-45’s effective date.

These arrangements violate NFA’s existing compliance rules if the arrangements are not consistent with the pool’s current disclosure document or offering materials and both the loan(s) or advance(s) and the conflict of interest are not fully disclosed to participants. Existing arrangements also violate NFA’s rules if the loan or advance is not secured by marketable, liquid assets (e.g. a CPO participant’s pro-rata interest in the pool’s liquid assets) and, therefore, the arrangement could have a material effect upon the pool’s ability to meet its obligations to participants.

EXPLANATION OF PROPOSED AMENDMENTS

In February, NFA took two Member Responsibility Actions (“MRAs”) against three NFA Member commodity pool operators (“CPOs”). Although the basis of both MRAs was the CPOs’ failure to cooperate with NFA in an investigation, the limited investigation that NFA was able to perform revealed that the CPOs had misappropriated pool funds through improper loans from pools to the CPOs or related entities. The CFTC charged all three of the CPOs with misappropriating pool assets through improper loans, and all three were charged criminally with fraud.

These two matters are not the first instances of CPOs misappropriating pool participant funds through direct or indirect loans from a pool to the CPO or a related entity. Over the years, there have been a number of regulatory actions involving this type of fraud. Given the significant losses suffered by pool participants as a result of these improper loans, NFA is proposing to prohibit direct or indirect loans from commodity pools to the CPO or any affiliated person or entity.

NFA staff discussed this matter with NFA’s CPO/CTA Advisory Committee, which supported prohibiting loans because it believes that absent extraordinary circumstances there is no legitimate reason for a pool to make a direct or indirect loan to its CPO or a related party.

At its May 2009 meeting, the Board approved Compliance Rule 2-45. Although the rule provides for a complete prohibition, the Board was somewhat concerned that there might be some unforeseen very limited circumstances where a carve-out to this prohibition would be appropriate. As a result, the Board instructed staff to handle these situations on a case-by-case basis, with the CPO seeking no-action relief from NFA.

After NFA submitted the proposed rule to the Commission for approval, Commission staff informed NFA that although they supported the overall concept, they had concerns regarding NFA’s granting of no-action relief. In light of the Commission’s concerns and the fact that there are few, if any, foreseeable situations in which NFA should permit a loan arrangement, the Board reconsidered its original position regarding no-action relief.

Nonetheless, the Board recognizes that there are a few loan arrangements currently in place that have been fully disclosed and are adequately collateralized. Therefore, the Interpretive Notice provides that CPOs will not be required to immediately sell other assets to repay these existing loans. CPOs will, however, be required to notify NFA of any such current arrangements within 30 days of Compliance Rule 2-45’s effective date. NFA will review these arrangements to ensure, among other things, that participants were provided with full disclosure of the arrangements and that the loans are secured by marketable, liquid assets. Moreover, as NFA has done in several recent MRAs, we will not hesitate to recommend disciplinary action if we find those loans involve fraud, inadequate disclosure or are not properly collateralized.

As mentioned earlier, NFA is invoking the “ten-day” provision of Section 17(j) of the Commodity Exchange Act. NFA intends to make proposed Compliance Rule 2-45 and the related Interpretive Notice regarding the prohibition of loans by pools to CPOs and related parties effective ten days after receipt of this submission by the Commission, unless the Commission notifies NFA that the Commission has determined to review the proposal for approval.

Respectfully submitted,

Thomas W. Sexton
Senior Vice President and
General Counsel
_________
* The proposed adoption of Compliance Rule 2-45 and Interpretive Notice became effective September 11, 2009.

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Other related hedge fund law articles include:

Bart Mallon, Esq. runs hedge fund law blog and has written most all of the articles which appear on this website.  Mr. Mallon’s legal practice is devoted to helping emerging and start up hedge fund managers successfully launch a hedge fund.  If you are a hedge fund manager who is looking to start a hedge fund, or if you have questions about the CPO or CTA registration process, please call Mr. Mallon directly at 415-296-8510.

Commodity Pool Operators Scrambling After Surprise CFTC Decision

CFTC Withdraws Two No-Action Letters

In a surprise move the CFTC has withdrawn two no-action letters which is had just recently issued.  Under the new Chairman Gary Gensler, the CFTC has made an about face on this issue with regard to two commodity pool operators who were relying on the no-action letters issued in 2006.  Under the no-action letters, the CFTC provided no-action relief to the CPOs from certain speculative position limits.  According to the release reprinted below, the reason for the change is because Chairman Gensler “believe[s] that position limits should be consistently applied and vigorously enforced.”  While we generally believe that rules should be applied uniformly, we also believe that the governmental agencies (the CFTC and the SEC) should not make it a practice of revoking previously issued no-action letters.  We also believe that the CFTC and the SEC should not be in the business of express politicking, which may have been the case here – it sets a horrible precedent for new/changing administrations.  Additionally, we believe that the same “tough line” on position limits could have been effected in a less onerous manner.

The release states that the CFTC will work with the affected CPOs, but the damage has been done – how are businesses supposed to operate when these governmental agencies are constantly moving the target?

The no-action letters can be found here:

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Release: 5695-09
For Release: August 19, 2009

CFTC Withdraws Two No-Action Letters Granting Relief from Federal Speculative Position Limits on Soybeans, Corn and Wheat Contracts

Washington, DC – The U.S. Commodity Futures Trading Commission today announced that it is withdrawing two no-action letters that provided relief from federal agricultural speculative positions limits set forth in CFTC regulations (17 C.F.R §150.2).

“I believe that position limits should be consistently applied and vigorously enforced,” CFTC Chairman Gary Gensler said. “Position limits promote market integrity by guarding against concentrated positions.”

In CFTC Letter 06-09 (May 5, 2006), the agency’s Division of Market Oversight (DMO) granted no-action relief to DB Commodity Services LLC, a commodity pool operator (CPO) and commodity trading advisor (CTA), permitting the DB Commodity Index Tracking Master Fund to take positions in corn and wheat futures that exceed federal speculative position limits set forth in CFTC Regulation 150.2. Subsequently, in CFTC Letter 06-19 (September 6, 2006), DMO granted similar no-action relief to a CPO/CTA employing a proprietary commodity investment strategy that includes positions in Chicago Board of Trade corn, soybeans and wheat futures contracts. Among other things, DMO’s no-action position in both cases stated that any change in circumstances or conditions could result in a different conclusion. DMO has previously stated that the trading strategies employed by these entities would not qualify for a bona fide hedge exemption under the Commission’s regulations.

DMO will work with each of these entities as they transition to positions within current federal speculative limits. The withdrawal of these no-action positions is very specific and limited and does not affect any other no-action or regulatory positions taken by the CFTC or its staff with regard to these entities or other market participants.

Last Updated: August 19, 2009

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Please contact us if you have any questions or would like to start a hedge fund. Other related hedge fund law articles include:

Bart Mallon, Esq. runs hedge fund law blog and has written most all of the articles which appear on this website.  Mr. Mallon’s legal practice is devoted to helping emerging and start up hedge fund managers successfully launch a hedge fund.  If you are a hedge fund manager who is looking to start a hedge fund, or if you have questions about becoming registered as a CPO or CTA, please call Mr. Mallon directly at 415-296-8510.