REGULATORS AND INDUSTRY ASSOCIATIONS
The securities industry as well as the commodities industry are regulated by federal and state governments and industry organizations. Those financial entities operating in the global space have other regulators, with other rules and regulations to contend with. Collectively, these institutions have provided us with the framework that we must operate under. The regulations include: Who can operate and what their limitations are, how the markets are to operate, what clients may or may not do, the regimen for processing transactions, the requirements for the lending of money and securities, and the maintenance of records. All are mandated via these directives.
The Securities and Exchange Commission was created by Congress to develop and enforce rules and regulations regarding securities exchanges, securities trading markets, and the members and firms operating through these facilities. The SEC’s purview includes all firms and individuals that conduct securities business with the public. The exceptions are those entities covered by other federal agencies, such as the Office of the Comptroller of the Currency (OCC), which regulates federal banks and federal savings associations. State banks are regulated by the individual states.
The scope of the commission’s regulations is vast, covering:
The Securities and Exchange Commission is divided into five main divisions:
CORPORATE FINANCE oversees disclosures made by public companies and operates EDGAR (Electronic Data Gathering, Analysis, and Retrieval), which is a system for public notification of financial events affecting those companies. The division is also responsible for the registration of securities for sale to the public and for overseeing the processes that accompany offerings.
TRADING AND MARKETS oversees the self-regulating organizations such as FINRA, broker-dealer firms, and investment firms. This is the division that promulgates rules as to the levels of qualification examinations industry personnel are required to pass.
INVESTMENT MANAGEMENT OVERSEES mutual funds and investment advisers and oversees compliance with the Investment Company Act and the Investment Advisers Act.
ENFORCEMENTS WORKS WITH the aforementioned divisions, investigating alleged rule and/or regulation violations and bringing charges against parties when such conditions are found.
RISK, STRATEGY, AND FINANCIAL INNOVATION applies academic disciplines and quantitative and nonquantitative concepts to complex matters, provides economic and statistical analysis to the commission, and also develops economic and risk models for the commission and market participants.
The Commodity Futures Trading Commission (CFTC) is an independent agency of the federal government that regulates the futures, options on futures and credit derivative markets. It is the successor to the Commodity Exchange Act of 1936, which prohibited fraudulent trading acts. In 1974, Congress amended the act and replaced the Commodity Exchange Authority with the Commodity Futures Trading Commission. The commission’s mission was expanded and is now stated thus: “to protect market users and the public from fraud, manipulation, and abusive practices related to the sale of commodity and financial futures and options, and to foster open, competitive, and financially sound futures and option markets.” Originally, the commission was focused on agricultural products; over the years, however, its area of jurisdiction has widened, partly because of the multitude of new products that we now trade and because of some of these products’ unique structure.
The Commodity Exchange Act (CEA) was a successor to earlier legislation aimed at stopping fraud and the manipulation of commodity prices. It required all regulated commodities to trade on licensed contract markets. In addition, it mandated that all broker-dealers who had customers that traded commodity orders be registered with the federal government. These firms became known as futures commission merchants (FCMs).
The CFTC is composed of five commissioners appointed by the president with the consent of the Senate, and operating in five-year terms. Its major operating units are:
DIVISION OF CLEARING AND INTERMEDIARY OVERSIGHT is responsible for the oversight of derivative clearing organizations (such as CME Group clearing entities), registrants’ financial integrity, customer fund protection, stock-index margin requirements, registration and financial/operational condition of intermediaries, futures commission merchants, commodity pool operators (CPOs) and commodity trading advisors (CTAs), sales practice reviews, and National Futures Association activities as they relate to intermediaries and foreign market access by intermediaries.
DIVISION OF MARKET OVERSIGHT is responsible for the oversight of trade execution facilities, with a primary focus on market surveillance, trade practice reviews in accordance with best practices, and the investigation of possible violations, verifying that rules and procedures are being enforced.
DIVISION OF ENFORCEMENT investigates alleged violations of the CFTC and CEA rules and regulations and, when parties are found guilty, it proceeds with prosecution. Violations range from unauthorized transactions, to improper marketing of commodity and/or option products, to criminal violations of the Commodity Exchange Act or of other federal rules, and may be referred to the Justice Department for prosecution.
OFFICE OF CHIEF ECONOMIST is an independent office whose purpose is to render policy analysis and economic research. Its members may be called upon to give expert testimony and to provide education and training.
OFFICE OF GENERAL COUNSEL (OGC) is the commission’s legal adviser. The staff represents the OGC in appellate litigation and certain trial-required cases. The OGC reviews all regulatory, legislative, and administrative matters. It also advises the commission on the application and interpretation of the Commodity Exchange Act.
OFFICE OF THE EXECUTIVE DIRECTOR (OED) develops the management and administrative policies the commission will follow. The OED performs management accounting functions such as the formulation of the budget and the allocation and use of resources, oversees management controls, assures financial integrity, and updates and maintains its automated systems. Located within the OED is the Office of Proceedings, which provides an inexpensive and expedient forum for processing customer complaints against the National Futures Association’s registered personnel and entities. The office has the responsibility for recording and monitoring futures contracts traded on United States futures exchanges.
The Financial Industry Regulatory Authority is the largest independent regulator of broker-dealers and affiliated firms in the United States. It is dedicated to protecting investor and market integrity through regulation of the securities industry.
FINRA is the industry’s own police force. It is empowered to enforce the rules of the Securities and Exchange Commission, other federal agencies, and its own rules and regulations. For example, it is responsible for enforcing the Securities and Exchange Commission’s rules covering the Federal Reserve Board’s Regulation T, which covers the lending of funds to clients to perform transactions in securities. FINRA eventually appended to it rules covering account maintenance.
There are four main sections of FINRA:
REGULATIONS: works on maintaining FINRA rules, develops new and updates current rules, distributes information notices, and solicits comments for members and other interested parties.
COMPLIANCE: maintains broker-dealers’ and individuals’ registrations, operates continuing education programs, and performs compliance examinations of member firms.
EDUCATION: conducts conferences and events, provides online learning and university programs.
ENFORCEMENT: enforces the sanction guidelines, adjudicates disputes and infractions, and assigns disciplinary actions.
FINRA also provides tools to assist investors and industry personnel to perform various tasks, such as its Fund Analyzer and Retirement Calculator.
The International Swaps and Derivatives Association is an international organization dedicated to representing derivative and structured product participants and products through communication, education, and cooperative cohesive efforts. It works to foster a safe and efficient derivatives market that will in turn facilitate effective risk management for all users of derivative products.
The organization has eight functional areas. They are:
These areas are the focus of the association’s attention as its members work with global regulatory and industry groups in setting policy, regulations, and processes. The products involved are credit default swaps, credit, equity, interest, and foreign exchange derivatives, and select commodity and structured products.
The main ISDA document, the master agreement, and its accompanying documents have gone a long way in reducing misunderstanding and confusion in transactions of these products as well as codifying the core components into a standard form.
The Securities Industry and Financial Markets Association is a nonregulatory industry organization that develops policies and practices that augment the rules and regulations enforced by the Securities and Exchange Commission and FINRA. It comprises broker-dealers, banks, asset managers, and industry professionals who devote their time and efforts for the mutual good. It develops policies that strengthen financial markets and encourage capital availability, job creation, and economic growth, while building trust and confidence in the financial industry.
SIFMA organizes committees to address issues facing the industry. As of the writing of this book, committees are addressing the Dodd-Frank Act and systemic risk, just to name two. There are also committees whose role is to represent the industry to federal and state government bodies.
The National Futures Association (NFA) is an industry-run self-regulatory organization made up of its members. To trade on a U.S. futures market, the person or entity must be registered with the NFA. Currently the NFA has 4,200 firms and 55,000 associates. Its purpose is to provide rules and regulations that protect clients and maintain the industry’s integrity.
The NFA establishes and administers qualification examinations. It performs a thorough background check on all applicants, including fingerprint scanning. The entity reserves the right to deny any applicant and revoke, suspend, or fine any registered firm or individual.
The CFTC develops rules and regulations and the NFA enforces them. A complete suite of rules and regulations are being updated on a regular basis to keep the National Futures Association in step with current trends and trading techniques. These rules and regulations, which focus on the dealings between clients and firms, are being expanded to cover the new products continually being added to the futures exchanges.