2011-31355

Federal Register, Volume 76 Issue 240 (Wednesday, December 14, 2011)[Federal Register Volume 76, Number 240 (Wednesday, December 14, 2011)]

[Rules and Regulations]

[Pages 77670-77672]

From the Federal Register Online via the Government Printing Office [www.gpo.gov]

[FR Doc No: 2011-31355]

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COMMODITY FUTURES TRADING COMMISSION

17 CFR Part 1

RIN 3038-AD64

Retail Commodity Transactions Under Commodity Exchange Act

AGENCY: Commodity Futures Trading Commission.

ACTION: Interpretation; Request for comments.

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SUMMARY: The Commodity Futures Trading Commission (``Commission'' or

``CFTC'') is issuing this interpretation of the term ``actual

delivery'' as set forth in section 2(c)(2)(D)(ii)(III)(aa) of the

Commodity Exchange Act (``CEA'') pursuant to section 742(a) of the

Dodd-Frank Wall Street Reform and Consumer Protection Act. The

Commission requests comment on whether this interpretation accurately

construes the statutory language. In the event that comments

demonstrate a need to modify this interpretation, the Commission will

take appropriate action.

DATES: Effective December 14, 2011. Comments must be received by

February 13, 2012.

ADDRESSES: Comments, identified by RIN number, may be sent by any of

the following methods:

Agency Web site, via its Comments Online process: http://comments.cftc.gov. Follow the instructions for submitting comments

through the Web site.

Mail: David A. Stawick, Secretary of the Commission,

Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st

Street NW., Washington, DC 20581.

Hand Delivery/Courier: Same as mail above.

Federal eRulemaking Portal: http://www.regulations.gov.

Follow the instructions for submitting comments.

FOR FURTHER INFORMATION CONTACT: Rosemary Hollinger, Regional Counsel,

Division of Enforcement, (312) 596-0538, rhollinger@cftc.gov, or Martin

B. White, Assistant General Counsel, Office of the General Counsel,

(202) 418-5129, mwhite@cftc.gov, Commodity Futures Trading Commission,

Three Lafayette Centre, 1155 21st Street NW., Washington, DC 20581.

All comments must be submitted in English, or, if not, accompanied

by an English translation. Comments will be posted as received to

http://www.cftc.gov. You should submit only information that you wish

to make available publicly. If you wish the Commission to consider

information that may be exempt from disclosure under the Freedom of

Information Act (``FOIA''),\1\ a petition for confidential treatment of

the exempt information may be submitted according to the established

procedures in Sec. 145.9 of the CFTC's regulations.\2\ The Commission

reserves the right, but shall have no obligation, to review, prescreen,

filter, redact, refuse, or remove any or all of your submission from

http://www.cftc.gov that it may deem to be inappropriate for

publication, such as obscene language. All submissions that have been

redacted or removed that contain comments on the merits of the

rulemaking will be retained in the public comment file and will be

considered as required under the Administrative Procedure Act and other

applicable laws, and may be accessible under FOIA.

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\1\ 5 U.S.C. 552.

\2\ 17 CFR 145.9.

SUPPLEMENTARY INFORMATION:

I. Background

On July 21, 2010, President Obama signed the Dodd-Frank Wall Street

Reform and Consumer Protection Act (``Dodd-Frank Act'').\3\ Title VII

of the Dodd-Frank Act \4\ amended the Commodity Exchange Act (``CEA'')

\5\ to establish a comprehensive new regulatory framework for swaps and

security-based swaps. The legislation was enacted to reduce risk,

increase transparency, and promote market integrity within the

financial system by, among other things: (1) Providing for the

registration and comprehensive regulation of swap dealers and major

[[Page 77671]]

swap participants; (2) imposing clearing and trade execution

requirements on standardized derivative products; (3) creating robust

recordkeeping and real-time reporting regimes; and (4) enhancing the

Commission's rulemaking and enforcement authorities with respect to,

among others, all registered entities and intermediaries subject to the

Commission's oversight.

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\3\ See Dodd-Frank Wall Street Reform and Consumer Protection

Act of 2010, Public Law 111-203, 124 Stat. 1376 (2010). The text of

the Dodd-Frank Act may be accessed at http://www.cftc.gov/LawRegulation/OTCDERIVATIVES/index.htm.

\4\ Pursuant to section 701 of the Dodd-Frank Act, Title VII may

be cited as the ``Wall Street Transparency and Accountability Act of

2010.''

\5\ 7 U.S.C. 1 et seq.

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In addition, section 742(a) of the Dodd-Frank Act amends section

2(c)(2) of the CEA to add a new subparagraph, section 2(c)(2)(D) of the

CEA,\6\ entitled ``Retail Commodity Transactions.'' New CEA section

2(c)(2)(D) provides the Commission with a new source of jurisdiction

over certain retail commodity transactions.\7\ Congress enacted this

provision following court decisions, including CFTC v. Zelener,\8\ that

narrowly interpreted the term ``contract of sale of a commodity for

future delivery''--the statutory term for a futures contract--based on

language in customer agreements. Zelener involved retail foreign

currency transactions that were characterized as spot sales in contract

documents, but in which, in practice, customer positions were held open

indefinitely and customers never took delivery of foreign currency.\9\

Zelener held that the transactions were not subject to CFTC

jurisdiction because they did not involve futures contracts but were

``in form, spot sales for delivery within 48 hours.'' \10\ In so

ruling, the court focused solely on the language of the customer

agreements.

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\6\ 7 U.S.C. 2(c)(2)(D).

\7\ The jurisdictional grant provided to the Commission by new

CEA section 2(c)(2)(D) is in addition to, and independent from, the

jurisdiction over contracts of sale of a commodity for future

delivery and transactions subject to regulation pursuant to CEA

section 19 that the CEA has historically granted to the Commission.

The jurisdictional grant provided by new CEA section 2(c)(2)(D) is

also in addition to, and independent from, the jurisdiction over

swaps granted to the Commission by the Dodd-Frank Act.

\8\ 373 F.3d 861 (7th Cir. 2004); see also CFTC v. Erskine, 512

F.3d 309 (6th Cir. 2008).

\9\ 373 F.3d at 863-64.

\10\ Id. at 868-69.

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Following Zelener, Congress provided the Commission with additional

authority over retail foreign currency transactions in the CFTC

Reauthorization Act of 2008.\11\ Similarly, in section 742(a) of the

Dodd-Frank Act, Congress provided the Commission with additional

authority over non-foreign currency retail commodity transactions by

making specified forms of these transactions subject to certain

provisions of the CEA regardless of whether they involve a ``contract

of sale of a commodity for future delivery.'' Senator Lincoln explained

the rationale for this legislation during floor debate on the Dodd-

Frank Act:

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\11\ Food, Conservation and Energy Act of 2008, Public Law 110-

246, 122 Stat. 1651 (2008).

[the] contracts [in Zelener] function just like futures contracts,

but the court of appeals, * * * based on the wording of the contract

documents, held them to be spot contracts outside of CFTC

jurisdiction. The CFTC Reauthorization Act of 2008, which was

enacted as part of that year's Farm Bill, clarified that such

transactions in foreign currency are subject to CFTC anti-fraud

authority. It left open the possibility, however, that such Zelener-

type contracts could still escape CFTC jurisdiction if used for

other commodities such as energy and metals.

Section 742 corrects this by extending the Farm Bill's ``Zelener

fraud fix'' to retail off-exchange transactions in all commodities.

Further, a transaction with a retail customer that meets the

leverage and other requirements set forth in Section 742 is subject

not only to the anti-fraud provisions of CEA Section 4b (which is

the case for foreign currency), but also to the on-exchange trading

requirement of CEA Section 4(a), ``as if'' the transaction was a

futures contract.\12\

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\12\ 156 Cong. Rec. S5,924 (daily ed. July 15, 2010) (statement

of Sen. Lincoln); see also Hearing to Review Implications of the

CFTC v. Zelener Case Before the Subcomm. on General Farm Commodities

and Risk Management of the H. Comm. on Agriculture, 111th Cong. 52-

664 (2009) (``In 2004 the Seventh Circuit Court made a decision in

the CFTC v. Zelener [case]. It adopted a narrow definition of the

term `transactions for future delivery.' What it held is that a 3-

day contract offered to retail customers for foreign currency that

on its face promised delivery was not a futures contract and was,

therefore, outside the CFTC's jurisdiction. This was even though the

contracts operated in practice as futures contracts. Following the

Zelener decision, many [fraudsters] were given a roadmap to evade

CFTC jurisdiction and to scam customers or consumers.'') (statement

of Hon. Leonard L. Boswell, United States Representative and

Chairman, Subcommittee on General Farm Commodities and Risk

Management); (``What we are talking about here though is expanding

the--well, correcting would be the argument the Zelener

interpretation of what a futures contract is. If in substance it is

a futures contract, it is going to be regulated. It doesn't matter

how clever your draftsmanship is.'') (statement of Hon. Jim

Marshall, United States Representative).

Accordingly, new CEA section 2(c)(2)(D) broadly applies to any

agreement, contract, or transaction in any commodity that is entered

into with, or offered to (even if not entered into with), a non-

eligible contract participant or non-eligible commercial entity on a

leveraged or margined basis, or financed by the offeror, the

counterparty, or a person acting in concert with the offeror or

counterparty on a similar basis.\13\ New CEA section 2(c)(2)(D) further

provides that such an agreement, contract, or transaction shall be

subject to CEA sections 4(a),\14\ 4(b),\15\ and 4b \16\ ``as if the

agreement, contract, or transaction was a contract of sale of a

commodity for future delivery.'' \17\

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\13\ 7 U.S.C. 2(c)(2)(D)(i).

\14\ 7 U.S.C. 6(a).

\15\ 7 U.S.C. 6(b).

\16\ 7 U.S.C. 6b.

\17\ 7 U.S.C. 2(c)(2)(D)(iii).

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New CEA section 2(c)(2)(D) excepts certain transactions from its

application. In particular, new CEA section 2(c)(2)(D)(ii)(III)(aa)

\18\ excepts a contract of sale that ``results in actual delivery

within 28 days or such other longer period as the Commission may

determine by rule or regulation based upon the typical commercial

practice in cash or spot markets for the commodity involved.'' \19\

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\18\ 7 U.S.C. 2(c)(2)(D)(ii)(III)(aa).

\19\ The Commission has not adopted any regulations permitting a

longer actual delivery period for any commodity pursuant to new CEA

section 2(c)(2)(D)(ii)(III)(aa). Accordingly, the 28-day actual

delivery period set forth in this provision remains applicable to

all commodities.

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The Commission is issuing this interpretation to inform the public

of the Commission's views as to the meaning of the term ``actual

delivery'' as used in new CEA section 2(c)(2)(D)(ii)(III)(aa) and to

provide the public with guidance on how the Commission intends to

assess whether any given transaction results in actual delivery within

the meaning of the statute.\20\ The Commission requests comment on

whether its interpretation of ``actual delivery'' accurately construes

the statutory language.

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\20\ In 1985, the Commission's Office of General Counsel issued

a staff interpretation determining whether certain hypothetical

precious metals transactions would be subject to regulation under

the CEA. Interpretive Letter 85-2, Bank Activities Involving the

Sale of Precious Metals (CFTC Office of General Counsel Aug. 6,

1985), Comm. Fut. L. Rep. (CCH) ] 22,673 (``Letter 85-2''). Letter

85-2 opined on whether the hypothetical transactions would

constitute leverage contracts, as defined by 17 CFR 31.4(w), or

contracts of sale of a commodity for future delivery, as that term

is used in CEA section 2(a)(1)(A). Letter 85-2 is not relevant to a

determination of whether ``actual delivery'' has occurred within the

meaning of new CEA section 2(c)(2)(D)(ii)(III)(aa) for several

reasons, including, but not limited to, the following: (1) Letter

85-2 predates new CEA section 2(c)(2)(D) by approximately 26 years

and therefore does not purport to construe new CEA section

2(c)(2)(D); (2) to the extent Letter 85-2 assumes the occurrence of

delivery of a commodity, it does not purport to determine whether

``actual delivery'' has occurred under new CEA section

2(c)(2)(D)(ii)(III)(aa); and (3) new CEA section 2(c)(2)(D)(iii)

explicitly subjects certain retail commodity transactions to CEA

sections 4(a), 4(b), and 4b ``as if'' they were contracts of sale of

a commodity for future delivery, regardless of whether they are, in

fact, contracts of sale of a commodity for future delivery under CEA

section 2(a)(1)(A).

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This interpretation does not address the meaning or scope of new

CEA section 2(c)(2)(D)(ii)(III)(bb) \21\ or any exception to new CEA

section 2(c)(2)(D) other than new CEA section 2(c)(2)(D)(ii)(III)(aa).

Similarly, this

[[Page 77672]]

interpretation does not address the meaning or scope of contracts of

sale of a commodity for future delivery, the forward contract exclusion

from the term ``future delivery'' set forth in CEA section 1a(27),\22\

or the forward contract exclusion from the term ``swap'' set forth in

CEA section 1a(47)(B)(ii).\23\ Nor does this interpretation alter any

statutory interpretation or statement of Commission policy relating to

the forward contract exclusion.\24\

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\21\ 7 U.S.C. 2(c)(2)(D)(ii)(III)(bb).

\22\ 7 U.S.C. 1a(27).

\23\ 7 U.S.C. 1a(47)(B)(ii).

\24\ See, e.g., Statutory Interpretation Concerning Forward

Transactions, 55 FR 39188 (Sept. 25, 1990) (``Brent

Interpretation'').

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II. Commission Interpretation of ``Actual Delivery''

In the view of the Commission, the determination of whether

``actual delivery'' has occurred within the meaning of new CEA section

2(c)(2)(D)(ii)(III)(aa) requires consideration of evidence regarding

delivery beyond the four corners of contract documents. This

interpretation of the statutory language is based on Congress's use of

the word ``actual'' to modify ``delivery'' and on the legislative

history of new CEA section 2(c)(2)(D)(ii)(III)(aa) described above.

Consistent with this interpretation of the statutory language, in

determining whether actual delivery has occurred within 28 days, the

Commission will employ a functional approach and examine how the

agreement, contract, or transaction is marketed, managed, and

performed, instead of relying solely on language used by the parties in

the agreement, contract, or transaction. This approach best

accomplishes Congress's intent when it enacted section 742(a) of the

Dodd-Frank Act and gives full meaning to Congress's term ``actual

delivery.''

Relevant factors in this determination include the following:

ownership, possession, title, and physical location of the commodity

purchased or sold, both before and after execution of the agreement,

contract, or transaction; the nature of the relationship between the

buyer, seller, and possessor of the commodity purchased or sold; and

the manner in which the purchase or sale is recorded and completed. The

Commission provides the following examples to illustrate how it will

determine whether actual delivery has occurred within the meaning of

new CEA section 2(c)(2)(D)(ii)(III)(aa).

Example 1: Actual delivery will have occurred if, within 28

days, the seller has physically delivered the entire quantity of the

commodity purchased by the buyer, including any portion of the

purchase made using leverage, margin, or financing, into the

possession of the buyer and has transferred title to that quantity

of the commodity to the buyer.

Example 2: Actual delivery will have occurred if, within 28

days, the seller has physically delivered the entire quantity of the

commodity purchased by the buyer, including any portion of the

purchase made using leverage, margin, or financing, whether in

specifically segregated or fungible bulk form, into the possession

of a depository other than the seller and its parent company,

partners, agents, and other affiliates, that is: (a) A financial

institution as defined by the CEA; (b) a depository, the warrants or

warehouse receipts of which are recognized for delivery purposes for

any commodity on a contract market designated by the Commission; or

(c) a storage facility licensed or regulated by the United States or

any United States agency, and has transferred title to that quantity

of the commodity to the buyer.\25\

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\25\ Based on Examples 1 and 2, an agreement, contract, or

transaction that results in ``physical delivery'' within the meaning

of section 1.04(a)(2)(i)-(iii) of the Model State Commodity Code

would ordinarily result in ``actual delivery'' under new CEA section

2(c)(2)(D)(ii)(III)(aa), absent other evidence indicating that the

purported delivery is a sham. See Model State Commodity Code Sec.

1.04(a)(2)(i)-(iii), Comm. Fut. L. Rep. Archive (CCH) ] 22,568 (Apr.

5, 1985). Conversely, an agreement, contract, or transaction that

does not result in ``physical delivery'' within the meaning of

section 1.04(a)(2)(i)-(iii) of the Model State Commodity Code is

highly unlikely to result in ``actual delivery'' under new CEA

section 2(c)(2)(D)(ii)(III)(aa).

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Example 3: Actual delivery will not have occurred if, within 28

days, a book entry is made by the seller purporting to show that

delivery of the commodity has been made to the buyer and/or that a

sale of a commodity has subsequently been covered or hedged by the

seller through a third party contract or account, but the seller has

not, in accordance with the methods described in Example 1 or 2,

physically delivered the entire quantity of the commodity purchased

by the buyer, including any portion of the purchase made using

leverage, margin, or financing, and transferred title to that

quantity of the commodity to the buyer, regardless of whether the

agreement, contract, or transaction between the buyer and seller

purports to create an enforceable obligation on the part of the

seller, or a parent company, partner, agent, or other affiliate of

the seller, to deliver the commodity to the buyer.

Example 4: Actual delivery will not have occurred if, within 28

days, the seller has purported to physically deliver the entire

quantity of the commodity purchased by the buyer, including any

portion of the purchase made using leverage, margin, or financing,

in accordance with the method described in Example 2, and transfer

title to that quantity of the commodity to the buyer, but the title

document fails to identify the specific financial institution,

depository, or storage facility with possession of the commodity,

the quality specifications of the commodity, the identity of the

party transferring title to the commodity to the buyer, and the

segregation or allocation status of the commodity.

Example 5: Actual delivery will not have occurred if, within 28

days, an agreement, contract, or transaction for the purchase or

sale of a commodity is rolled, offset, or otherwise netted with

another transaction or settled in cash between the buyer and the

seller, but the seller has not, in accordance with the methods

described in Example 1 or 2, physically delivered the entire

quantity of the commodity purchased by the buyer, including any

portion of the purchase made using leverage, margin, or financing,

and transferred title to that quantity of the commodity to the

buyer, regardless of whether the agreement, contract, or transaction

between the buyer and seller purports to create an enforceable

obligation on the part of the seller, or a parent company, partner,

agent, or other affiliate of the seller, to deliver the commodity to

the buyer.

Issued in Washington, DC, on December 1, 2011 by the Commission.

David A. Stawick,

Secretary of the Commission.

[FR Doc. 2011-31355 Filed 12-13-11; 8:45 am]

BILLING CODE P

Last Updated: December 14, 2011