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Vedder Thinking | Articles CFTC Adopts Harmonization Rules for CPOs to RICs and Modifies Regulatory Requirements for All CPOs and CTAs

NFA Implements New Quarterly Filing Requirement for CTAs


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On August 13, 2013, the Commodity Futures Trading Commission (CFTC) adopted final rule amendments (Harmonization Rules) with respect to certain compliance obligations for registered commodity pool operators (CPOs) to registered investment companies (RICs) under the Investment Company Act of 1940, as amended (1940 Act) (i.e., a CPO to a RIC that cannot satisfy the trading and marketing conditions under amended CFTC Rule 4.5). The Harmonization Rules generally permit a CPO to comply with the disclosure, reporting and recordkeeping requirements of the Securities and Exchange Commission (SEC) to satisfy substantially all of the Part 4 regulations applicable to CPOs under the Commodity Exchange Act of 1936 (CEA) and the regulations thereunder. The Harmonization Rules, which are substantially broader than the CFTC proposal from February 2012, should be viewed as a significant win for CPOs.

The staff of the SEC's Division of Investment Management also issued guidance to facilitate compliance with the Harmonization Rules. Additionally, the Harmonization Rules amended disclosure and reporting provisions applicable to all CPOs and commodity trading advisors (CTAs) by (i) permitting publicly offered commodity pools to claim relief available to commodity exchange-traded funds (ETFs), (ii) rescinding the signed acknowledgment to the disclosure document, (iii) permitting the use of third parties to maintain books and records, and (iv) extending the time period for disclosure document updates to 12 months.

This bulletin summarizes the Harmonization Rules and notes the steps that a CPO to a RIC should take to claim the substituted compliance regime under Rule 4.12(c).

Harmonization of SEC and CFTC Requirements for CPOs of RICs

In February 2012, the CFTC adopted amendments to Rule 4.5 that limited the CPO exclusion for RICs. As amended, Rule 4.5 requires a CPO to a RIC to register with the CFTC if the RIC (i) exceeds the de minimis trading threshold in commodity interests or (ii) markets itself as a commodity pool or as a vehicle for trading in commodity interests. In the adopting release for amended Rule 4.5, the CFTC clarified that the investment adviser to the RIC was deemed to be the CPO and, as such, was responsible for determining whether a RIC could avail itself of amended Rule 4.5. At the same time as it amended Rule 4.5, the CFTC adopted a number of new reporting requirements for CPOs and CTAs. Acknowledging that the anticipated registration of CPOs to RICs would create a host of CFTC compliance issues because many CFTC requirements conflicted with the provisions of the 1940 Act, the Securities Act of 1933 (Securities Act), the Securities Exchange Act of 1934 and the regulations issued under such securities laws and applicable SEC guidance (together, SEC Rules), the CFTC promulgated proposed rules to resolve various conflicts between the two regulatory regimes. After 18 months and substantial comments from industry participants, the CFTC issued the Harmonization Rules.

Substituted Compliance Regime for RICs—Conditions to Claim Relief

Through the Harmonization Rules, the CFTC created a substituted compliance regime set forth in Rule 4.12(c) whereby a CPO of a RIC can meet certain CFTC compliance obligations by complying with applicable SEC Rules. It should be noted that a CPO that has claimed the substituted compliance regime and later violates SEC Rules could be subject to an enforcement action by both the CFTC and the SEC.

In order for a CPO to avail itself of the substituted compliance regime, the CPO is required to satisfy the following conditions:

  • Notice Filing. The CPO is required to file a notice of its reliance on the substituted compliance regime with the National Futures Association (NFA) as detailed in Rule 4.12. We understand the NFA is working to automate the notice filing. Under the adopting release, the notice filing must be made with the NFA by October 21, 2013. The notice filing is to be made electronically through NFA EasyFile.
  • Disclosure of Performance History. A CPO to a RIC with less than three years of performance will be required to disclose the performance of all accounts and pools that are managed by the CPO and have investment objectives, policies and strategies substantially similar to those of the RIC.
  • File Financial Statements with NFA. A CPO to a RIC will be required to file with the NFA the financial statements prepared for compliance with SEC Rules.
  • Notice Filing Regarding Third-Party Recordkeeping. If the CPO uses or intends to use a third party to store a RIC's records, the CPO must notify the CFTC. The notice is to be made electronically through NFA EasyFile.
  • CPO-PQR/CTA-PR. The Harmonization Rules did not alleviate the requirement for a CPO or CTA to a RIC to file CPO-PQR/CTA-PR. Based on conversations with the CFTC, we believe existing registrants will commence reporting for the period ending December 31, 2013. We note that the Investment Company Institute (ICI) submitted a letter to the CFTC on August 28, 2013 requesting confirmation of this deadline along with various other items related to the Harmonization Rules.

Through the substituted compliance regime, the CFTC eliminated nearly all of the onerous CFTC requirements that generally apply to CPOs of nonexempt commodity pools. Below is a summary of the relief provided by the CFTC.

Approval, Update and Filing of Disclosure Document under Substituted Compliance Regime

  • NFA Review of Disclosure Document. Rule 4.26(d) requires a CPO to file its disclosure document and amendments with the NFA for approval no less than 21 days prior to delivery to participants. The Harmonization Rules provide that a CPO shall have satisfied this requirement by complying with applicable SEC Rules. Without the CFTC's relief, RICs would have been subjected to two layers of regulatory approval prior to offering.
  • Effective Period of Disclosure Document. Previously, CPOs and CTAs were required to update a pool's disclosure document within nine months of first use. Under amended Rule 4.26(a)(2), the CFTC extended this time frame to 12 months. Through the substituted compliance regime, a CPO to a RIC will be deemed to have satisfied the effective period by complying with applicable SEC Rules. Without the Harmonization Rules, RICs would have been subject to varying update cycles with respect to disclosure documents.
  • Interim Updates. A CPO is required under Rule 4.26(c) to correct material inaccuracies in a disclosure document within 21 days of the date upon which the CPO becomes aware of the inaccuracy. The federal securities laws prohibit the offer or sale of securities if the prospectus includes materially inaccurate information. Under the Harmonization Rules, the CFTC deemed CPOs of RICs to be in compliance with Rule 4.26(c) if the RIC adheres to the SEC's disclosure requirements.

Delivery and Acknowledgment of Disclosure Document under Substitute Compliance Regime

Under Rule 4.21, a CPO is generally required to deliver a disclosure document to each prospective participant and obtain a signed acknowledgment of receipt before admitting the participant to the pool. This requirement differs substantially from SEC Rules, which only require delivery of a statutory prospectus prior to or at the time of the confirmation of the transaction and do not require a signed acknowledgment. Under the Harmonization Rules, the CFTC will deem a CPO to be in compliance with Rule 4.21 if the CPO complies with the prospectus delivery requirements under SEC Rules. In the adopting release, the CFTC noted the following:

  • Open-End Funds. Open-end RICs, such as mutual funds, are permitted under SEC Rules to use a summary prospectus combined with making information available on the RIC's website. As adopted, the Harmonization Rules exempt an open-end fund from the CFTC's delivery and acknowledgement requirements if the fund complies with SEC Rules. Consistent with SEC Rules, the CFTC is permitting RICs that have multiple series to provide disclosure on a series-by-series basis even though the RIC uses a single registration statement.
  • Closed-End Funds. Because SEC Rules do not require a closed-end RIC to maintain a current prospectus, the CFTC will not require a closed-end RIC to maintain a current disclosure document.

Account Statements under Substitute Compliance Regime

CFTC regulations require the delivery of an account statement every month to commodity pool participants with at least $500,000 in net assets. The Harmonization Rules provide relief to CPOs from the requirement to deliver a monthly account statement so long as the fund's current net asset value (NAV) is available and the fund files its semi-annual and annual financial reports (Form N-CSR) with the SEC, and provides the reports to investors in accordance with SEC Rules.

CFTC Requirements for RIC Registration Statements

CFTC regulations require various information to be included in a CPO's disclosure document. The format and content of the information varies significantly from SEC Rules. Through the Harmonization Rules, the CFTC has permitted CPOs to satisfy most of the CFTC requirements under Rules 4.24 and 4.25 by complying with the SEC Rules as detailed below.

  • CFTC Legend and Risk Disclosure Statement. A CPO is permitted to use the cautionary statement required by SEC Rules under Rule 481 under the Securities Act instead of the CFTC legend under Rule 4.24(a). The CFTC suggests adding a reference to the CFTC in the SEC-required cautionary statement, which states that the SEC has not approved or disapproved of the securities or passed upon the accuracy or adequacy of the disclosures in the prospectus. In addition, under the Harmonization Rules, CPOs to RICs are not required to include the CFTC's standardized risk disclosure statement under Rule 4.24(b).
  • Principal Risk Factors. Because the CFTC has determined that the disclosure requirements under Form N-1A and N-2 and applicable SEC guidance should satisfy the CFTC's concerns over complete and accurate risk disclosure relating to the risks associated with investments in commodity interests, the Harmonization Rules exempt CPOs to RICs from including a discussion of the principal risks of participation in the commodity pool under Rule 4.24(g) if the RIC complies with SEC Rules.
  • Past-Performance Disclosure. Under the Harmonization Rules, the CFTC generally exempted CPOs to RICs from the requirement to include the past performance of all other pools and accounts managed by the CPO and other CTAs of the RIC. As noted in the adopting release, this CFTC requirement set forth in Rule 4.24(n) conflicts with SEC Rules that limit the use of past performance of other funds or accounts to those that are managed with substantially similar investment objectives, policies and strategies as those of the RIC. However, the CFTC did not exempt a CPO to a RIC that has less than three years of performance history and that has claimed the substituted compliance from including the performance history of any pools and accounts that are managed by the CPO and that have substantially similar investment objectives, policies and strategies to those of the RIC. Accordingly, a CPO to a RIC that has claimed substituted compliance may need to include past performance, depending on the length of the fund's performance history.
  • Fee Disclosure. The Harmonization Rules exempt a CPO to a RIC from including a break-even table under Rule 4.24(d)(5) and the narrative fee disclosure under Rule 4.24(i). After considering the types of fees and costs included under Forms N-1A and N-2, the CFTC decided to deem a CPO compliant with the CFTC requirements so long as the CPO follows SEC Rules.

Use of CFCs by RICs

The CFTC reaffirmed the use of controlled foreign corporations (CFCs) by RICs to invest in commodity interests, but it also reiterated that CFCs may be commodity pools depending on the nature of their trading in commodity interests. The CFTC did confirm that so long as a RIC discloses the principal risks associated with the CFC and its trading, the CFC will not need to prepare a separate disclosure document. In addition, a CFC will not be required to prepare separate financial statements so long as the RIC consolidates the CFC with its financial statements and files them with the NFA.

SEC's Division of Investment Management (IM) Guidance for Funds That Invest in Commodity Interests

On August 13, 2013, IM issued guidance to assist RICs with complying with the disclosure and reporting obligations under SEC Rules. The guidance is summarized below.

  • Disclosure of Principal Risk Factors. The IM guidance restates the staff's prior guidance with respect to disclosure of the use of derivatives, including commodity interests. According to the IM's guidance, any disclosure of principal investment strategies related to derivatives should be tailored specifically to how a RIC expects to be managed and should take into account the type and extent of derivatives to be used. The guidance also notes that each RIC should provide an investor with a complete risk profile of the fund's investment taken as a whole, rather than a list of various derivatives strategies, and should detail the anticipated usage of derivatives instruments. The guidance provides further that the staff expects RICs that use derivatives to consider the risks related to such instruments, including volatility, leverage, liquidity and counterparty creditworthiness.
  • Past Performance. The IM guidance restates the staff's view that past performance of other funds and accounts may be included in a RIC's prospectus if the funds and accounts investment objectives, policies and strategies that are substantially similar to those of the RIC. The guidance notes that the past performance must not be misleading and must be presented in accordance with existing guidance. RICs should generally include the performance of all other funds and private accounts managed by the adviser that have investment objectives, policies and strategies that are substantially similar to those of the RIC. The guidance further notes that a RIC should not exclude the performance of any other funds or private accounts that have substantially similar investment objectives, policies and strategies if the exclusion would cause the performance shown to be materially higher or more favorable than would be the case if the funds or accounts were included.
  • Legend Requirement. The guidance notes that the staff would not object if a fund that invests in commodities includes in the legend required by Rule 481 under the Securities Act a statement that the CFTC has not approved or disapproved of the securities or passed upon the accuracy or adequacy of the disclosure in the prospectus.
  • Compliance and Risk Management. The IM guidance reminds RICs that using commodity interests to implement their investment strategies subjects them to compliance obligations under the compliance program requirement of Rule 38a-1 under the 1940 Act. The guidance urges RICs and their investment advisers to adopt policies and procedures that are designed to effectively manage commodities investments and the risks related thereto. The guidance also reminds RICs that they are required to disclose in their statement of additional information the extent of the board's role in the risk oversight of the fund, such as how the board administers its oversight function.

Uncertainty Regarding Sub-Advisers to RICs

The Harmonization Rules do not address a sub-adviser's obligations under the CFTC's Part 4 regulations. Assuming a sub-adviser to a RIC could not otherwise avail itself of a CTA registration exemption, it would need to come into compliance with the CFTC regulations by October 21, 2013. We understand that the CFTC is considering issuing guidance on this matter, but it is unknown when such guidance will be available. In the interim, sub-advisers should determine whether they need to register and provide a disclosure document to the CPO of the RIC.

ICI Requests Clarification on Timing

On August 28, 2013, the ICI submitted a letter to the CFTC requesting clarification with respect to the timing of various compliance obligations following the adoption of the Harmonization Rules. The ICI requested clarification of several matters including the following: (i) the effective date for amendments to a RIC's registration statement, (ii) the timing of filing a claim under Rule 4.12, (iii) the effective date for certain recordkeeping amendments and (iv) the timing of the filing of CPO-PQR for a RIC. For more information, please see the ICI letter.

Reporting and Disclosure Changes Applicable to All CPOs and CTAs

Below is a summary of various changes to reporting and disclosure obligations that are applicable to all CPOs and CTAs.

  • Publicly Offered Pools Afforded ETF Relief. Under Rule 4.12(c)(2), the CFTC extended the relief currently offered to commodity ETFs to public pools that are not exchange traded (i.e., pools that are registered under the Securities Act but not under the 1940 Act). Under the commodity ETF relief, the CPO would be entitled to disclosure document delivery and acknowledgment relief, as well as relief regarding the maintenance of account statements readily accessible on a website and the maintenance of books and records by third parties. This relief became effective on August 22, 2013.
  • Third-Party Service Providers for Books and Records. The Harmonization Rules amended Rules 4.23 and 4.7(b)(4) to allow CPOs to utilize the services of third parties to maintain books and records so long as the firm files a notice with the CFTC identifying the delegated record keeper and the firm maintains timely access to its records. Permissible record keepers include the pool's administrator, distributor or custodian, or a bank or registered broker or dealer acting in a similar capacity with respect to the pool. The effective date of this change was September 23, 2013.
  • Rescission of Signed Acknowledgment to Receipt of Disclosure Document. The Harmonization Rules rescinded the requirement under Rule 4.21(d) that CPOs and CTAs obtain a signed acknowledgment of the receipt of a firm's disclosure document. The effective date of this change was August 22, 2013.
  • Extended Period for Update of Disclosure Document. The Harmonization Rules extended the update cycle from nine months to 12 months for CPOs and CTAs to amend their disclosure documents. The effective date of this change was August 22, 2013.

NFA Adopts New Quarterly Filing Requirements for CTAs as of September 30, 2013

  • In 2012, the CFTC adopted Rule 4.27, which, among other things, requires that all CTAs file a Form PR annual report with the CFTC within 45 days of the calendar year-end. The Form PR requires each CTA to report on an annual basis general information about the CTA, its trading programs, the pool assets directed by the CTA and the identity of the CPOs that operate those pools. This annual requirement became effective for the calendar year ending December 31, 2012.
  • In March 2013, the CFTC approved the NFA's request to have CTAs report quarterly on NFA Form PR under NFA Rule 2-46. The NFA recently published the revised CTA-PR. The first required filing of NFA Form PR is as of September 30, 2013. The filing is due on November 14, 2013. The NFA Form PR filing as of December 31, 2013 will satisfy the CFTC requirement to report on CFTC Form PR.

If you have questions about the new Harmonization Rules for CPOs to RICs or the related regulatory and filing requirements, please contact Deborah Bielicke Eades at +1 (312) 609 7661, Joseph M. Mannon at +1 (312) 609 7883 or any other Vedder Price attorney with whom you have worked.


Joseph M. Mannon


Deborah Bielicke Eades