CONFLICT OF INTEREST ISSUE However…there is always a ‘However’ in such topics! However, there are some highly significant contentious issues highlighted by the CME’s move. The first and to me, the most significant, is the conflict of interest issue. You see, I have always been taught that the role of the CME and other U.S. based exchanges and clearing house was
threefold...much like the legs on a stool…they all support each other if balanced…but if one becomes dominant, well…it all falls down. These 3 are markets, risk and compliance. The markets area is the significant fee generation income here and can try to dominate the other two. The risk area as the name implies, is where the integrity of the traded products is covered with exchanges and clearing houses calling on FCMs to provide funding from their clients. Finally, the compliance area is the oversight of market participants, the FCMs, being fit and proper, etc… The CME is the regulator for FCMs and the CFTC is the regulator for the CME. The changes proposed would in effect make the CFTC not only the regulator of the CME but of the CME’s FCM and could lead to conflicts in, for example…funding. There could be the temptation for the CME to give priority to its own interests and those of its FCM over those of other FCMs clients during periods of market volatility, putting in danger the client segregation of funds and assets.
Additionally, the CME is privy to sensitive market information and data from its role as an exchange and clearing house. This creates the potential for an unfair advantage for its FCM as it would have sensitive information on the clients of other FCMs, their trading flows and volumes, leading to potentially unfair advantages. Then there is the potential for reduced oversight of the CME’s own FCM by the CME which in turn leads to greater pressure on the CFTC to oversee the CME. Given the current environment to reduce costs at a Federal level within the U.S., would the CFTC be able to deploy such additional resources to undertake such tasks?
This leads to other advantages that the CME’s FCM might have over traditional FCMs. They may be inclined to offer flexible margin terms together with trading and clearing that traditional FCMs might find hard to match. What guarantees and oversights would be in place that priority in clearing at the CME would not be given to its own FCM when compared to an external FCM? If new risk tools are developed by the CME, what
would stop them from offering it to their own FCM’s clients first and not to the whole market? Finally, I have not even begun to contemplate what would happen if the CME’s FCM decided to set up a proprietary trading arm…that is a wholly different and longer conversation.
CALLS FOR NEW U.S. RULES TO GOVERN THIS SITUATION The immediate outcome following the CFTC approval has been for calls for new U.S. rules to govern this situation & specifically, by Allison Lurton, General Counsel & Chief Legal Offices at the FIA saying at CFTC roundtable ‘Given the experience that we have had working with the SRO and the CFTC and the buy side over the last ten years working on some specific issues it’s clear we need regulatory action here.’ (1)
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This situation will develop in the coming weeks and months and is the start of a change in roles of not just the CME and its FCMs…but also other exchanges and clearing houses who will be watching this situation with great interest…but also with some issues. The issue I can foresee is this, once the CME’s FCM is up and running, will it offer FCM services ONLY in CME products, or will it also offer clearing services for other, Exchanges and Clearing Houses? If it does wish to do this, will the other exchanges and Clearing Houses be comfortable in allowing such access to their markets and products, will they restrict or stop this happening? If they do…could the CME argue the case that by doing so, they are unfairly restricting their FCM’s operations? This is likely where the lawyers might step in…and further clarifying regulations will be needed from the lawmakers. All these changes bring, new risks. My role here today, has been to start the conversation, whether in your own mind as an individual reader or as part of a larger discourse.
Eddie Tofpik E:
eddie.tofpik@
admisi.com T: +44(0) 20 7716 8201
(1) Futures and Options World – 31 Oct 2024
16 | ADMISI - The Ghost In The Machine | Q1 Edition 2025
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