Swiss franc turmoil leads NFA to tighten US Forex rules


The National Futures Association (NFA) has highlighted its reputation of a strict financial watchdog by publishing a set of proposals that involves profound changes in the regulation of Forex activities of Forex dealer members (FDMs). The document is interesting and important not only in that it outlines some critical changes in capital requirements, information disclosure and security deposits, but also in unveiling the reasons for these changes.

The amendments to the rules are all connected to the events following the Swiss National Bank (SNB) decision to remove the peg of the Swiss franc to the euro on January 15, 2015. The NFA describes in detail the case of “one FDM” whose finances were harshly affected by what happened on “Black Thursday”. It is this particular case that has led to a key change in the rules, concerning capital requirements and security deposits.

What happened to that “one Forex Dealer Member”?

“One FDM suffered significant losses on January 15 when the Swiss National Bank unexpectedly abandoned the cap on the Swiss franc’s exchange rate against the Euro. Specifically, this FDM fell below its minimum capital requirement by nearly $220 million and if the firm had filed for bankruptcy, the firm’s customers would have been treated as general creditors with no preference in bankruptcy, and the customer losses would have been significant.

The vast majority of losses experienced by the FDM resulted from losses suffered by its U.K. affiliate – a foreign broker that acted as counterparty to foreign customers. The foreign affiliate hedged its risk with the FDM. Additionally, the FDM’s other foreign affiliates covered transactions with their foreign customers through the U.K. affiliate, which the U.K. affiliate also covered through the FDM. As a result, the risk attributed to these positions ultimately held by the foreign customers rested with the FDM.

Although the U.K. affiliate is a dealer engaging in forex transactions with foreign customers (as well as covering positions for the FDM’s other foreign affiliates), the foreign affiliate qualifies as an ECP counterparty in its transactions with the FDM. Therefore, neither NFA’s nor the CFTC’s current forex requirements cover the FDM’s activities with the U.K. affiliate. More specifically, the FDM does not take a capital charge for any of its transactions with the U.K affiliate.”

The new rules

Capital requirements will rise

NFA Financial Requirements Section 11 currently requires FDMs to maintain adjusted net capital equal to $20 million plus 5% of all liabilities owed to customers that exceed $10 million. Under the changes, NFA’s Board has determined that the FDM capital requirement should include an additional charge for the amount owed to eligible contract participant (ECP) counterparties, including with ECP counterparties acting as a dealer. There will be an additional capital charge of 10% of any liabilities the FDM owes to: (1) ECP counterparties that are an affiliate of the FDM not acting as a dealer; and (2) ECP counterparties that are not an affiliate of the FDM acting as a dealer.

This charge will require an extra capital infusion for at least two FDMs, the NFA estimates.

Security Deposit Requirements

NFA Financial Requirements Section 12 currently requires an FDM to collect specified security deposit amounts from its customers that are not ECPs. The Board has determined that the risks associated with transactions with ECP counterparties have a direct impact on the FDM’s retail customers, and therefore the Board is amending Financial Requirements Section 12 to require FDMs to also collect and maintain the same security deposit amounts from ECP counterparties.

Risk Management Programs for FDMs

FDMs will have to be implement risk management programs especially for their Forex activities, alike the procedures implemented by Futures Commission Merchants and Swap Dealers. These programs will involve publishing of detailed info about market risk exposure on the corporate website, as well as conducting regular stress tests of the company.

The proposals will be reviewed by the Commodity Futures Trading Commission (CFTC).

To view the detailed proposals by the NFA, click here.

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Swiss franc turmoil leads NFA to tighten US Forex rules

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