National Futures Association

Regulatory relationship

The Commodity Futures Trading Commission (CFTC) was created in conjunction with the Commodity Exchange Act of 1974 to regulate the U.S. futures markets (see Fung and Hsieh, 1999, for an evolutionary history of the legal environment of hedge funds).

The CFTC is an independent federal regulatory authority with the legal responsibility to ensure that futures trading serves a valuable economic purpose, to guarantee the integrity of the market and the clearing process, and to protect the interests of futures market participants from market manipulation, misuse, and fraud. The CFTC is represented at the largest futures exchanges: Washington, DC (its headquarters); New York; Chicago; and Kansas City.

The futures industry attempts to regulate itself through an industrywide selfregulatory organization called the National Futures Association (NFA), which was formed in 1982 to establish and enforce standards of professional conduct. This organization works in conjunction with the CFTC to protect the interests of futures traders as well as those of the industry.

Every company or individual who carries out futures or options trading with the public is required to register with the CFTC and become a member of the NFA. Th e NFA’s objective is to offer new regulatory programs and services making sure of futures industry integrity and to help its members in attaining their regulatory responsibilities.

In order to ensure regular trading activity, the NFA conducts background checks on applicants, conducts exams and tests, ensures compliance regulations are met, and can impose sanctions on members if necessary.

The NFA’s activities are overseen by the CFTC, on whose behalf the registration process is performed. NFA members fall into four categories:

1. commodity trading advisors (CTAs),
2. commodity pool operators (CPOs),
3. futures commission merchants (FCMs), and
4. introducing brokers (IB).

FCMs who are members of an exchange are subject not only to CFTC and NFA regulations, but also to the regulations of the exchanges and clearing organizations they belong to. Therefore, the exchange and clearing corporation personnel are under the CFTC supervision and are accountable for scrutinizing the business conduct and assuming financial responsibility for their member firms, floor brokers, and traders.

Violating exchange rules can have serious consequences resulting in heavy fines, suspension, revocation of trading privileges, and even the loss of exchange or clearing corporation membership. Even though the different regulatory organizations in the futures industry have their own particular areas of authority, jointly they form a regulatory partnership that watches over all industry members.

Once CPOs or CTAs have registered with the CFTC and the NFA, they are subject to several disclosure obligations (see Anson, 2006, for a survey). If a registered entity violates the rules, the NFA has the authority to take disciplinary action, which can range from issuing a warning for small rule violations to ofi cial complaints if rule violations merit prosecution.

Penalties consist of censure, reprimand, expulsion, suspension, ban from future association with any NFA member, and fines up to $250,000 per violation. The NFA also has the authority to reject, suspend, restrict, or place conditions on any firm’s or individual’s registration.

National Futures Association