CFTC and SEC propose new framework for trading futures on Debt Security Index Contracts

The proposal advances the goal of the US President’s Working Group on Financial Markets to create a new class of tradable derivatives contracts.

‘The new products that undoubtedly will be created under this proposal can provide additional ways to diversify and manage risk,’ said SEC Chairman Christopher Cox. ‘That’s good both for capital formation and for the protection of investors.’

CFTC Chairman Reuben Jeffery noted, ‘I am very pleased to announce the results of our cooperative efforts with the SEC on this long-awaited proposal to permit the trading of futures on domestic and foreign debt security indexes. The new definition for broad-based debt indexes will benefit both markets and market participants by making available a wider array of financial products for trading.’

Chairman Jeffery also reaffirmed the CFTC’s commitment to work collaboratively with its SEC colleagues on foreign equity index and margining issues that have been raised during the CFTC Reauthorization process. The CFTC Chairman indicated that these efforts are intended ‘to continue to make the promises of the CFMA a reality.’ Chairman Jeffery also stated, ‘I want personally to thank SEC Chairman Cox for his invaluable assistance and outstanding leadership, as we work toward these objectives.’

Futures contracts on debt indices that are allowed under the proposed rules would trade on futures exchanges subject to regulation by the CFTC. Security futures on debt securities could be traded on futures exchanges and securities exchanges subject to regulation by the CFTC and SEC.

The joint rulemaking is necessary because, under current regulations, trading futures on debt indices is essentially forbidden. The federal law that governs the subject, however, specifically gives joint rulemaking authority to the two agencies to permit the trading of futures on indexes composed of debt securities.

To achieve the aims of investor protection and market integrity, the proposed rules provide that a future on a debt security index not subject to SEC regulation must be broad-based. This requirement is designed to insure that the securities making up the index are not readily susceptible to manipulation. (The opportunity for manipulation could exist if an index covered too few securities, or a significant number of illiquid securities.) The rules will clarify the definition of a ‘narrow-based security index,’ providing criteria that are specifically relevant to debt securities.

Comments on the proposed rules should be received by the respective Commissions within 30 days of their publication in the Federal Register. The two Commissions expect to adopt final rules by June 30, 2006.