The NFA, FXDD, GFT and “excess capital” – the real story

A no-warnings, overnight interpretation decision by the NFA led to some scrambling by otherwise well-capitalized FX brokers.

As several other blogs noted over the past two days, the CFTC’s monthly data for November on the capitalization of regulated U.S. retail FX dealers showed negative “Excess Net Capital” for two FX brokers, FXDD (minus $3.7 million) and GFT (minus $15.5 million). It was erroneously noted in those blogs that the deficit at FXDD was due either to $3.3 million which FXDD had to deposit in escrow as it fights certain NFA claims (it wasn’t connected, that event didn’t occur until the first week of December), or a rule interpretation change governing pooling of funds from foreign subsidiaries (again, off the mark).

So what really happened? The CFTC and the NFA, as well as leading auditors in the financial sector, all have interpreted “capital” to include cash held at subsidiaries of the regulated entity — domestic or foreign — as long as the cash could be reasonably withdrawn to the regulated parent within 30 days. Suddenly on the last day of November (i.e. late on a Friday afternoon which also happened to be the last day of the month), and without any prior notice or warning given to regulated U.S. companies, the NFA informed its regulated companies including FXDD and GFT that they could no longer include subsidiary cash in their capital calculation, unless it was held as excess capital in the subsidiary — meaning that they would automatically be showing a capital shortfall for November — and that they were now technically undercapitalized.

FXDD rectified the situation immediately, transferring the necessary cash held at a domestic U.S. broker-dealer subsidiary back to the regulated parent company. FXDD U.S. remains, as it always was at least as far as we can tell, well capitalized, and as such when December capital numbers come out in a few weeks we expect FXDD to show positive Excess Net Capital once again.

GFT, on the other hand, faced with the same issue, was either unable or unwilling to move money around and as such decided abruptly over that first weekend of December to freeze all activity in U.S. client accounts, and quickly scrambled to sell those clients to Gain Capital several days later.

As we understand the situation, we are abhorred at the behavior of the NFA and CFTC bureaucrats. They did nothing to make trading or brokerage firms safer for U.S. clients. If they had decided on this interpretation change in the calculation of capital, they should have properly communicated that to their regulated companies, with plenty of time to move money around as necessary, instead of giving them a last-day-of-the-month Friday afternoon ultimatum. The U.S. regulators only succeeded in weakening the system, and in reducing choice and competition for U.S. traders.

Again, we feel it important to emphasize that as far as we can tell FXDD was and remains well capitalized in its U.S. operations.

For more on the global Forex industry see the LeapRate-Dow Jones Forex Industry Report.



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