The old idea that the Commodity Futures Trading Commission should merge with the Securities and Exchange Commission was revived last week by senior figures in US financial regulation: Arthur Levitt, an ex-chairman of the SEC, and Christopher Cox, its present chairman. Today Philip McBride Johnson, former chairman of the CFTC, rebuts these calls. Writing for Futures and Options Intelligence, he makes a forceful case for the CFTC to remain a separate agency.
Recently the Chairman of the Securities and Exchange Commission advised the Congress that his agency would be pleased to assume the duties currently performed by the Commodity Futures Trading Commission.
I give the most serious and thoughtful consideration to anything that SEC chairman Christopher Cox says. But his suggestion (again) that our economy will thrive if only the Commodity Futures Trading Commission and the Securities and Exchange Commission were merged, citing that futures contracts sometimes involve securities, has been considered and rejected many times before. Why?
Because many securities having futures contracts are not regulated primarily by the SEC. Securities issued by governments or by banks – which underlie nearly half of total US futures volume – are largely regulated by specialised agencies other than the SEC, whose remit is confined principally to the securities issued by companies.
Because CFTC-regulated futures and options that are even remotely related to corporate securities account for about one third of total futures market volume, and all but one seventh of 1% are based on indexes which, by law, cannot be used to buy or sell any of the component securities. The others, as of August 2008, produced a mere 0.16% of total futures market volume.
Because what shall we do with the 25%-30% of volume involving assets like corn, copper, crude oil and currencies?
Because the one time when Congress mandated that the CFTC and the SEC must combine their resources in regulating a futures product, it has fared poorly. Single stock futures account, after six years of CFTC-SEC co-regulation, for so small a fraction of 1% of total market volume that a microscope is helpful in observing them, and that tiny volume has fallen more than 50% during the past year alone.
Because, even from the standpoint of investor protection, the current market turmoil has impacted the SEC greatly but the CFTC almost not at all. If it were true that the SEC and the CFTC really occupy the same market space, why is the SEC grappling with hundreds of billions of dollars of losses to securities investors, while the CFTC has not experienced a single default on its regulated instruments?
Because even the swaps that Congress now wants regulated are nearly indistinguishable from the futures and options that CFTC already oversees. Throughout the development of swaps in the 1980s and ’90s, it was the CFTC that set standards and granted exemptions until, that is, Congress told it to butt out in year 2000.
Because the CFTC (unlike the SEC) has required central counterparty clearing for 82 years that contributes billions of dollars of credit protection and a perfect track record.
Because holders of CFTC-regulated instruments have a special advantage in a broker bankruptcy.
Because, in the matter of allocating regulatory jurisdiction over swaps, choosing the CFTC could simplify the regulatory life of that community because it, unlike the SEC, is the sole and exclusive regulator of everything within its domain. One rulebook and one overseer versus, for example, the proposal from the State of New York to treat swaps as insurance, which would invite all 50 state insurance commissions to wade in. Or assignment to another federal agency lacking exclusive jurisdiction that could not ward off other agencies within the government claiming some form of interest in what swaps do.
Finally, because the CFTC is basically in the insurance business. It provides ways for farmers, bankers, miners, chemical manufacturers, builders and others to transfer their unwanted business price risk to others in the private sector, similar to the services offered by Lloyd’s of London. The SEC is in the capital raising and capital transfer business. This is why, among other things, the CFTC would never prohibit short selling and thus deprive enterprises of the ability to insure or hedge against falling prices. The SEC recently shut down a big part of that activity, declaring it to be harmful to the securities markets. And even within the securities regime, it is a different agency – the Federal Deposit Insurance Corporation – that provides a limited form of insurance coverage for securities investors.
The SEC is a superb organization that, despite all of the criticism heaped on it lately, has been one of those fairly rare success stories in Washington. During my time at the CFTC I looked often to the SEC for ways to enhance the CFTC’s effectiveness and professionalism. But changing the CFTC’s status – when it is a rare calm in this perfect storm in the financial markets and has shown dramatically that it has effective safeguards already in place – would be a huge step backward.
Philip McBride Johnson
The author is head of the exchange-traded derivatives law practice at Skadden, Arps, Slate, Meagher & Flom LLP and Associates. He was chairman of the Commodity Futures Trading Commission from 1981 to 1983.