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FROM F&O Week

August 10, 2007

CFTC examines OTC regulation

By Jim Kharouf
F&O Week

Commodity Futures Trading Commission (CFTC) will hold a hearing on 18 September to examine market oversight of OTC and regulated exchanges, a move that keeps OTC energy regulation on the front burner. But observers have stressed that CFTC will need extra funding to bolster anaemic staffing levels to support the burden.

The hearing is designed to give more information on the subject to Congress, which could substantially expand the regulatory role of the agency and define some ongoing jurisdictional questions. CFTC will present its findings after speaking with professionals from the energy trading community, trade associations and consumer groups.

The hearing will examine a number of angles including: the current tiered regulatory approach of the Commodity Futures Modernisation Act of 2000; similarities and differences between OTC and regulated exchanges; regulatory and legislative changes and their potential impact on the industry.

"The evolution of these energy markets in recent years requires our agency to address whether the level of regulatory oversight is proper given the importance of energy prices to all Americans," said CFTC acting chairman Walt Lukken in a statement.

The push for greater regulation of OTC markets, also called exempt commercial markets of ECMs by CFTC is getting serious consideration in Washington, especially in the aftermath of recent hedge fund implosions in the energy markets from Amaranth and Mother Rock. Two legislative bills, calling for increased regulatory oversight, are being formulated in Congress – one from California Senator Dianne Feinstein, a long-time critic of the OTC energy markets, while the other is being put forth by Congressman Bart Stupak in the House of Representatives.

Industry executives have advocated greater CFTC oversight in recent Congressional hearings over alleged market manipulation of the OTC and exchange traded natural gas markets by Amaranth.

Intercontinental Exchange (ICE) chairman and CEO, Jeff Sprecher, told Congress last month that “ICE strongly supports legislative and regulatory changes that will enhance the quality of oversight and available information with respect to the natural gas markets."

But Sprecher added that CFTC needs more money and more staff in order to properly take on greater regulatory responsibility. This has been a major problem for CFTC, which watched its staff numbers drop in recent years while volumes in the regulated futures exchange space have exploded.

In its February budget request to Congress, CFTC said over the past ten years, "trading volume has quintupled while commission staffing levels have fallen significantly over the same time period. The funds requested will allow the commission to hire critically needed staff, maintain the technological infrastructure, and acquire contractor assistance to keep pace with the volume and complexity of the burgeoning and dynamic futures markets. The commission needs these funds simply to keep up with the industry we regulate".

The CFTC requested $116m for the 2008 fiscal year, up $18m from $98m in the current fiscal year. The agency, which has charged more than 40 firms and individuals with energy market manipulation over the past three years, estimates it will spend $44.4m of its budget to fund its enforcement efforts. More certainly will be needed if CFTC is then required to monitor OTC markets as well.

Sharon Brown-Hruska, vice president at NERA Economic Consulting and former acting chair of CFTC, told FO Week that CFTC is in a good position to secure better funding for the agency now that the issue of broader OTC regulation has such strong momentum in Congress.

"If they are going to grant additional authority in the OTC markets, that's absolutely critical," Brown-Hruska said of more funding. "They've already expanded their jurisdiction and adjudication, but now with Congress' attention it is a good time to finally get a fair allocation of resources to police these markets."

The White House once again suggested a user fee charge to help fund CFTC, a proposal that has been vehemently opposed by the industry for years. While sources said the user fee proposal and call for increased funding for CFTC are not likely connected, there may be a renewed push to implement such a charge to help fund the agency with an expanded role.

Russ Wasendorf Sr, chairman of Peregrine Financial Group, said that a user fee tax on top of existing taxes on profits from those transactions amounts to double taxation on customers. Additionally, brokers pay fees to the National Futures Association to fund its industry policing activities.

"It's never a good idea to compound taxes," Wasendorf said.

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