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CFTC Open Meeting

May 30, 2024 Financial Services

On May 10, the Commodity Futures Trading Commission (CFTC) held a public meeting to consider the issuance of the Commission’s Proposed Rule regarding Event Contracts.  The Commission approved the proposal by a 3-2 vote with an amendment related to staff delegated authority also approved.  Although not all Commissioner’s statements have been released on the CFTC website, below are statements made in the meeting with all available links to the website.

Below is a summary of the meeting prepared by Delta Strategy Group.

OPENING STATEMENTS

Chairman Rostin Behnam

  • I support the rule being proposed today.  There has been a significant uptick in the number of event contracts listed on CFTC-regulated DCMs over the last three years.  Given this exponential increase, the CFTC is proposing this rule to further define which of these contracts are counter to the public interest as defined by the Commodity Exchange Act (CEA).  This will help entities to make informed decisions with respect to product design.  It bans contracts related to award contests, political contests, or sports games, defining them as gaming.  To be clear, that means election event contracts cannot be listed for trading because such contracts fail to meet requirements for the public interest and are illegal in several states.  Such contracts degrade the uniquely American democratic process.  Such contracts have the potential to push the CFTC well beyond its Congressional authority, forcing it to be an election cop.
  • Contracts involving political events ultimately commoditize and degrade the integrity of the uniquely American experience of participating in the democratic electoral process.  Allowing these contracts would push the CFTC, a financial market regulator, into a position far beyond its Congressional mandate and expertise.  Here is a link to Chairman Behnam’s full statement.

Commissioner Kristin Johnson

  • The CFTC has seen an increase in applications by market participants trying to list contracts featuring political contests.  Most comment letters, including letters from Senators, have voiced a common concern over such contracts.  Free and fair elections have served as a foundational cornerstone of our democracy, and we must preserve the integrity of our democratic processes.  The CFTC cannot allow itself to be put in a position to police elections, acts of terrorism, war, or gaming.  It is important that the CFTC is undertaking this rulemaking process, but it will be vital for the CFTC to operate transparently and take in the notice and comment period before making final decisions.  This rule proposal would have benefited from more transparency and public input leading up to the rule proposal phase.

Commissioner Christy Goldsmith Romero

  • I support this proposed rule, and I would support going even further.  Congress has previously worked to make derivatives markets safer, and it should work to define elections as contrary to the public interest.  This proposal includes a question on whether the Commission should prohibit all election event contracts.  Political election contracts have the potential to undermine an overriding public interest in national democratic processes.  The CFTC is unable to ensure market integrity in political event contracts, and Congress never expected the CFTC to have enforcement authority over elections.  Election integrity has never been so under threat, and the CFTC cannot allow its markets to further undermine election sanctity.  This is even of further concern given the advent of generative AI.

Commissioner Summer Mersinger

  • My dissent should not be taken as an indication that I am a fan of all event contracts, but the Commission must exercise its authority over event contracts within the confines of its legal authority, and this proposal does not meet this test.  The proposal’s definition of gaming is overly broad.  To define every occurrence or non-occurrence surrounding a game as gaming is massive overreach.  Congress has clearly defined award events as not gaming, but this proposal made the decision to connect gaming, awards, games, and elections all as one concept.  The CFTC lacks legal authority to determine in advance that entire categories of contracts are automatically contrary to the public interest regardless of the contents of those contracts.  This is a gross overreach beyond the authority of the CEA.  Even if there was legal authority for this proposal, the proposal resurrects the economic purpose test that is no longer a part of the CEA and should not be used to ban entire categories of event contracts.
  • The Proposal would allow the Commission to make the substantive policy determination that entire categories of event contracts, regardless of their terms and conditions, are contrary to the public interest.  The consequences of such a determination are severe, a complete prohibition on exchanges’ ability to list event contracts, and on market participants’ ability to trade them.  If Congress had intended for the Commission to wield this immense authority, surely it would have said so.  Here is a link to Commissioner Mersinger’s full statement.

Commissioner Caroline Pham

  • The CFTC continues to encroach on states’ rights through this proposal.  This rulemaking represents how far the CFTC has strayed from the Administrative Procedure Act and the Constitution.  I have repeatedly raised concerns about the breakdown of the CFTC’s internal processes.  This is impacting our ability to fulfill our responsibilities and serve the public interest while treating market participants fairly.  I believe that there must be a Government Accountability Office (GAO) study of the CFTC’s processes for rulemaking among other things to ensure that the CFTC is living up to its Congressional requirements.  A GAO study will ensure that the Commission has the internal operations and expertise to be effective in its oversight of commodity derivatives markets.  Unfortunately, there has been a disturbing number of judicial opinions that the CFTC is failing to meet these standards.  If a public company discovered the same issues that I have seen at the CFTC, they would initiate an internal audit.  The CFTC’s previous conduct regarding event contracts is evidence of these failures, as the CFTC is a defendant in multiple lawsuits regarding the treatment of these contracts.
  • Under the Commission’s jurisdiction, the proposed rulemaking encroaches on state gaming oversight and state-regulated sports books.  I am very concerned about the new delegation of authority, and I appreciate Commissioner Mersinger’s motion to amend.  Such a delegation of authority combined with an overly broad definition of gaming will exponentially increase the number of self-certified exchange contracts that will be suspended from trading at the whim of staff with no oversight from the Commission.  Congress has never asked nor suggested that the CFTCshould police elections.  Here is a link to Commissioner Pham’s full statement.

PROPOSED RULE: EVENT CONTRACTS

Nora Flood, Division of Market Oversight (DMO)

  • Event contracts are not defined in the CEA, but registered entities that hope to list or clear event contracts must adhere to statutory requirements and CFTC regulations.  Additionally, Congress provided the CFTC with enhanced authority for the regulation of event contracts, saying that the Commission may determine that event contracts are contrary to the public interest if they involve any of five statutory enumerated activities or any other activity the CFTC determines to be contrary to the public interest.
  • The Commission has thus far not further defined any of these enumerated activities and has instead made determinations on contracts on a case-by-case basis.  Given the increase in proposed event contracts, we recommend that the CFTC further define these enumerated activities to provide additional clarity to market participants to ensure compliance with the CEA.  This will reduce the likelihood that contracts that violate the CEA are submitted to the CFTC.  This proposed definition draws on the general and legal understanding of gaming.  This proposal provides a nonexclusive list of activities that constitute gaming including political contests, awards contests, sports games, or occurrences or non-occurrences connected to such a game.  If the CFTC finds that the contents of a contract involve these enumerated categories or is contrary to the public interest, such a contract cannot be listed for trading or accepted for clearing.  The proposal would also further define the term public interest.

COMMISSIONER QUESTIONS AND DISCUSSION

Commissioner Johnson

  • Johnson:  What is your assessment of the volume and extent of event contracts?  Flood:  There has been a significant increase since 2021, but event contracts do represent a relatively small number of traded contracts.
  • Johnson:  How is your division managing the large volume of comments received on proposed applications and engaging with the community?  Flood:  Currently, our division handles the review process outlined in Regulation 40.11, which allows for a 90-day window to review event contracts that may involve enumerated activities.  Since the adoption of Regulation 40.11 in 2011, we have initiated these reviews for contracts potentially involving enumerated activities. During this period, we gather public comments and staff recommendations. While we anticipate this individualized review process to continue, the proposed amendments aim to provide clearer guidelines on which contracts fall under CEA Section 5c(c)(5)(C) and are contrary to the public interest.  By defining terms like gaming, we hope to offer additional clarity to the market, particularly for exchanges, in terms of which contracts they can list for trading or clearing.
  • Johnson:  What comments could be helpful as the Commission considers how the public interest assessment will work?  Flood:  CEA Section 5c(c)(5)(C) outlines factors like hedging and price-basing utility of a contract for consideration as part of a public interest analysis.

Commissioner Goldsmith Romero

  • Goldsmith Romero:  Can you please address market integrity issues of the event contracts?   McGonagle:    An event contract is different than traditional CFTC-regulated markets and thus would present significant challenges for the Division of Enforcement and implementing fraud and manipulation authority in these markets.  Event contracts are unique because there is no underlying cash market, which poses issues with verifying information objectively.  This creates concerns about misinformation.

Commissioner Mersinger

  • Mersinger:  The provision of the Commodity Exchange Act that addresses event contracts does not mention elections, awards, or contests, correct?  Flood:  No.
  • Mersinger:  Does the CEA provision on event contracts say that the Commission must use the economic purpose test?  Flood:  No.
  • Mersinger:  Does the statute mention economic purpose hedging or price basing?  Flood:  No.
  • Mersinger:  I propose an amendment to strike the proposed delegation of limited authority to the Directors of the Division of Market Oversight and the Division of Clearing and Risk, as specified in the written motion circulated to the Commission.

Commissioner Pham

  • Pham:  Why were public interest factors not included in the proposal?  Flood:  The proposed rulemaking includes an overview of public interest factors, which will be available for public comment.

Chairman Behnam

  • Behnam:   Can you explain the bifurcation between what the delegation is and what rights the Commission reserves in both reviewing the contract versus approving or disapproving the contract?  Flood:  Currently, regulation 4011 C contemplates that the Commission may commence a 90-day review of a contract that may involve an enumerated activity or prescribed similar activity and is subject to an extension requested by the offering exchange at the end of the 90-day period.  The final policy decision would remain with the Commission.

VOTE

Vote to Amend the Proposed Rule: Amendment to strike the proposed delegation of limited authority to the Directors of the Division of Market Oversight and the Division of Clearing and Risk, as specified in the written motion circulated to the Commission.

  • Commissioner Pham, Commissioner Mersinger, and Commissioner Goldsmith Romero, voted aye.  Chairman Behnam voted no, and Commissioner Johnson abstained.

Vote to Approve the Issuance of the Proposed Rulemaking on Event Contracts:

  • The motion passed.  Commissioner Pham and Commissioner Mersinger dissented. Commissioner Goldsmith Romero, Commissioner Johnson, and Chairman Behnam voted to approve the proposed rulemaking.