Authored by: Jeff Henderson & Doug Arend, Greenberg Traurig
Not all IBs operate exclusively as IBs. Some are also registered as CTAs and CPOs because of the nature of their business activities. Many IBs that are dually registered take advantage of the “registration lite” limited exemptive relief set forth in Commodity Futures Trading Commission (CFTC) Regulation 4.7 (Reg. 4.7) under the Commodity Exchange Act, as amended (CEA). Such IBs should be aware of changes to Reg. 4.7 adopted by CFTC on September 12, 2024.
In a divided vote, CFTC Commissioners took another step toward limiting the availability and scope of relief provided by Reg. 4.7. Although the changes adopted by CFTC in the final rule (Final Rule) are less comprehensive than those the CFTC proposed earlier in the year (Proposed Rule), they are the latest in a series of changes further scaling back both the extent to which Reg. 4.7 can be invoked and the relief from certain regulatory requirements it provides.
In particular, the Final Rule doubled the minimum financial requirements for a natural person to qualify as a “qualified eligible person” (QEP). In support of this increase, CFTC noted that the financial requirements to qualify as a QEP had not changed since Reg. 4.7 was initially adopted 32 years ago, while the number of persons who qualify as QEPs has grown substantially since then due to factors such as inflation. CFTC believes that adopting increased financial thresholds realigns Reg. 4.7 with the original intention of distinguishing retail investors from presumably more sophisticated market participants.
Under the new definition, in order to qualify as a QEP, an individual must satisfy a financial requirement (Portfolio Requirement) consisting of (1) owning securities and other investments with a market value of not less than $4 million; (ii) having on deposit with an FCM within the past six months at least $400,000 in required margin for open futures and options positions; or (iii) a combination of funds or property which, when expressed as percentages of the required minimum amounts and added together, equals or exceeds 100%. For example, an individual who owns half of the minimum required securities and other investments, or $2 million, and half of the minimum required margin deposit, or $200,000, would qualify as a QEP.
The Final Rule did not adopt certain minimum disclosure requirements contained in the Proposed Rule, including descriptions of principal risk factors, investment program, use of proceeds, custodians, fees and expenses, conflicts of interest, and targeted past performance information. However, CFTC noted in the adopting release accompanying the Final Rule that CFTC would consider adopting additional disclosure requirements in the future. The Final Rule notes that although it is not adopting minimum disclosure requirements as set forth in the Proposed Rule, CFTC intends to evaluate regulatory alternatives to such requirements in the future and may adopt changes “as appropriate.” If CFTC were to adopt mandated disclosures under Reg. 4.7, CFTC would effectively eliminate the option for CPOs and CTAs not to provide written materials.
Since its adoption, Reg. 4.7 has generally represented the CFTC counterpart to Securities and Exchange Commission (“SEC”) Regulation D (Reg. D), adopted under the Securities Act of 1933, as amended. SEC’s most recent amendment to Reg. D in December 2020 expanded the definition of “accredited investor.” But unlike Reg. D, which is intended as a safe harbor from securities registration under section 4(a)(2) of the Securities Act, Reg 4.7 provides relief both for CPOs conducting securities offerings exempt from Securities Act registration, and for CTAs offering separately managed accounts.
And unlike SEC’s expansion of investor qualification, CFTC has moved in the opposite direction. In raising the bar to qualify as a QEP, CFTC has chosen to limit the number of persons to whom CPOs and CTAs may offer their services under “registration lite.”