“In today’s markets, it’s difficult to meet that promise efficiently without using options, futures, swaps, and other derivatives,’’ he said, in keynote remarks that opened ICI’s general membership meeting here. “Funds use these tools to manage risks; to invest more efficiently; and to gain investment exposures to stocks in some foreign markets that are difficult or costly to access directly. “
Stevens called changes made in February by the Commodity Futres Trading Commission to a rule affecting commodity pool operators (CPOs) and commodity trading advisors (CTAs) “unwarranted, redundant, and costly amendments.’’
The CFTC announced on Feb. 9 the adoption of final rules amending the registration and compliance obligations for CPOs and CTAs.
In March, at ICI’s Mutual Funds conference in Phoenix, ICI general counsel Karrie McMillan said the requirements, which could put mutual funds under the oversight of both the CFTC and the Securities and Exchange Commission, “at once duplicative and fundamentally inconsistent.’’
The CFTC amended Rules 4.13 and 4.5 of Title 17 of the Code of Federal Regulations to make it significantly harder for mutual funds to avoid its purview. For instance, mutual funds now must register as commodity pool operators if they trade more than 5% of their liquidated asset value in speculative commodities trading.
Within a month of McMillan’s speech, the ICI had joined with the U.S. Chamber of Commerce in a court challenge to the amendments. The two business associations alleged that the CFTC rule changes violate both the Commodity Exchange Act and the Administrative Procedure Act on multiple accounts.
Under Rule 4.5, Schott noted in his remarks, that the CFTC has excluded insurance companies, banks, and pension plans from its regulatory regime.
“And since 2003, the CFTC treated registered investment companies and their advisers the same way,’’ he said, indicating mutual funds should also be excluded. “After all—what financial product is more comprehensively regulated than mutual funds?
The new tests are so stringent, though, he said, “that virtually every fund adviser will need to monitor its use of derivatives on a regular basis.’’
And some will be subject to CFTC regulation atop their current SEC oversight—a redundant, costly regime that will harm their investors, in his estimate.
If the changes are followed, funds’ ability to protect investors against market swings and benefit from market movements will be affected. That could lower returns and lead investors to pull out of funds, he indicated.
Meeting both CFTC and SEC rules, even though there is supposed to be ‘harmonization’ of these, could prove to be a “redundant, costly regime,’’ he said.
“Either way, investors lose,’’ he said.
“The CFTC’s actions fly in the face of the agency’s legal obligations for rulemaking,’’ he said. “After all, the CFTC made no attempt to demonstrate that SEC regulation of funds and advisers does not provide adequate investor protection.”
He said the court challenge is “a highly unusual step for us,’’ but one that “ answers a highly unusual provocation. ‘’
Mutual fund investors “benefit greatly from funds that use derivatives to provide investors some exposure to a broad basket of commodities—from energy to precious metals to agricultural products,’’ he said. Such investments offer “valuable portfolio diversification,” because commodities prices do not move in lockstep with stock or bond returns.
“And as raw materials for the goods that businesses and consumers buy, commodities offer investors an opportunity to protect themselves from inflation,’’ he said.
He said this use of derivtives has come under attack “from political leaders who seek to blame rising oil prices on mutual fund investors.
“They charge that investors’ expanded use of commodity investing—through relatively new products such as commodity mutual funds—is responsible for rising and volatile prices,’’ he said. “They attack our funds as “speculators.”