EXHIBIT 99.02
COMMODITY FUTURES TRADING COMMISSION AGENCY: Commodity Futures Trading
Commission.
17 CFR Part 4
Statement of the Commodity Futures Trading Commission Regarding Disclosure by
Commodity Pool Operators of Past Performance Records and Pool Expenses and
Request for Comments
54 FR 5597
February 6, 1989
ACTION: Interpretive Statement and Request for Comments.
SUMMARY: The Commodity Futures Trading Commission is publishing this
interpretive statement and request for comments in order to assist commodity
pool operators in complying with requirements concerning the disclosure of past
performance records and pool expenses.
DATE: Comments should be received on or before April 7, 1989.
ADDRESS: Please submit written comments to the Office of the Secretariat,
Commodity Futures Trading Commission, 2033 K Street NW., Washington, DC 20581.
FOR FURTHER INFORMATION CONTACT: Tobey W. Kaczensky, Associate Director,
Division of Trading and Markets, Commodity Futures Trading Commission, 2033 K
Street NW., Washington, DC 20581. Telephone: (202) 254-8955.
TEXT: SUPPLEMENTARY INFORMATION: The Commodity Futures Trading Commission
("CFTC" or "Commission") is today reminding commodity pool operators ("CPOs")
who solicit participations, or accept or receive funds, securities or other
property in respect of participations, in publicly offered commodity pools
registered under the Securities Act of 1933 (the "Securities Act") n1 or the
Securities Exchange Act of 1934 ("Exchange Act") n2 of certain disclosure
obligations under the Commodity Exchange Act (the "CEA"), n3 as more
particularly set forth in Part 4 of the CFTC's regulations. n4 This
interpretive statement and request for comments is being issued simultaneously
with a companion release of the Securities and Exchange Commission ("SEC")
generally addressing the same issues. n5 The CFTC, to the extent applicable,
incorporates by reference the views expressed by the SEC in its interpretive
statement. Commenters may wish to make the same submission to both agencies. The
companion statements reflect a continuing effort on behalf of the CFTC and the
SEC to maintain consistent, coordinated requirements for publicly offered
commodity pools.
n 1 15 U.S.C. 77a.
n 2 15 U.S.C. 78a.
n 3 7 U.S.C. 1.
n 4 17 CFR Part 4 (hereinafter, all references to CFTC regulations will use
the appropriate CFR citation).
n 5 This release principally addresses issues raised in the context of
public pools. However, given the fact that the CEA and CFTC regulations
thereunder generally apply equally to private pools and to public pools, the
views expressed herein, unless otherwise specified, also apply to private pools.
I. Background
Part 4 of the CFTC's regulations contains comprehensive disclosure
requirements for CPOs. n6 Among other things, Part 4 requires that a current
"Disclosure Document" be delivered to each prospective pool participant prior to
the solicitation of the participant or the participant's commitment of funds to
a pool. n7 This Disclosure Document also must be filed with the CFTC twenty-one
days prior to its first use. n8 Under Commission rules, pool disclosure
documents must address specifically the management policies of the pool and how
the pool will be traded and operated including, without limitation: the
five-year business background of its CPOs, CTAs and their respective principals;
the financial interests of such persons in the specific pool being offered; and
any actual or potential conflict of interest involving, or any material civil,
criminal or administrative action against, any CPO, CTA or the principals of
either within the preceding five years. Additionally, the document must
indicate: the minimum aggregate amount of funds that must be received before the
pool will commence trading; the responsibility, if any, of participants to
contribute additional capital; and the pool's policies concerning distributions
from profits or capital. n9
n 6 The CEA defines a "commodity pool operator" as "any person engaged in a
business which is of the nature of an investment trust, syndicate, or similar
form of enterprise, and who, in connection therewith, solicits, accepts, or
receives from others, funds, securities, or property, either directly or through
capital contributions, the sale of stock or other forms of securities, or
otherwise, for the purpose of trading in any commodity for future delivery on or
subject to the rules of a contract market . . ." 7 U.S.C. 2. The CEA defines a
"commodity trading advisor" ("CTA") as "any person who, for compensation or
profit, engages in the business of advising others . . . as to the value of or
the advisability of trading in any contract of sale of a commodity for future
delivery made or to be made on or subject to the rule of a contract market . .
." 7 U.S.C. 2.
n 7 17 CFR 4.21(a). A "pool" is defined as "any investment trust,
syndicate, or similar form of enterprise operated for the purpose of trading
commodity interests." 17 CFR 4.10(d).
n 8 17 CFR 4.21(g).
n 9 17 CFR 4.21(a)(8) and 4.21(a)(12).
2
Part 4 of the CFTC's regulations also specifically requires disclosure of
the actual performance record (i.e., the past performance history) of the pool's
CPO, CTAs and their respective principals. n10 Such disclosures must include
the past performance history of all pools, public or private, as well as that of
individual accounts operated or traded by the CPO and its CTAs. Part 4
separately requires a complete description of each kind of expense that may be
charged to a pool or its participants which specifies whether such expenses are
actual or estimated. n11
n 1 0 17 CFR 4.21(a)(4) and 4.21(a)(5).
n 1 1 17 CFR 4.21(a)(7). This requirement includes, without limitation, an
itemization of fees for management, trading advice, brokerage commissions, legal
advice, accounting services and organizational services. That Regulation also
requires the disclosure of any expense which has been or is to be paid by a
person other than the CPO. 17 CFR 4.21(a)(17)(iv). When any expense is
determined by reference to "net assets," "gross profits," "net profits" or "net
gains", the CPO must define that term. 17 CFR 4.21(a)(7)(ii).
Part 4 also contains a specified risk disclosure statement which warns that
a pool participant may lose his or her entire interest in the pool and that
pools may be subject to significant charges so that substantial trading profits
may be required to avoid the depletion or exhaustion of pool assets. n12
n 1 2 17 CFR 4.21(a)(17). The Risk Disclosure Statement must appear as the
only language on the page immediately following the cover page and must contain
specified language including, in part, the following statements:
YOU SHOULD CAREFULLY CONSIDER WHETHER YOUR FINANCIAL CONDITION PERMITS YOU
TO PARTICIPATE IN A COMMODITY POOL. YOU MAY LOSE A SUBSTANTIAL PORTION OR EVEN
ALL OF THE MONEY YOU PLACE IN THE POOL.
IN CONSIDERING WHETHER TO PARTICIPATE IN A COMMODITY POOL, YOU SHOULD BE
AWARE THAT TRADING COMMODITIES CAN QUICKLY LEAD TO LARGE LOSSES AS WELL AS
GAINS. SUCH TRADING LOSSES CAN SHARPLY REDUCE THE NET ASSET VALUE OF THE POOL
AND CONSEQUENTLY THE VALUE OF YOUR INTEREST IN THE POOL. ALSO, MARKET CONDITIONS
MAY MAKE IT DIFFICULT OR IMPOSSIBLE FOR THE POOL TO LIQUIDATE A POSITION.
The National Futures Association ("NFA"), which is the self-regulatory
organization ("SRO") responsible, under CFTC oversight, for CPO and CTA
compliance with the CFTC's disclosure requirements, has adopted additional rules
approved by the CFTC that pertain to pool disclosures. For example, NFA rules
prohibit the use of promotional material which includes any reference to actual
past trading profits without a statement that "past results are not necessarily
indicative of future results * * * ." n13 NFA generally requires that this
statement be included in the disclosure document
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adjacent to the performance table and the Commission believes that it should
appear in bold face print and in a prominent place immediately preceding the
past performance tables required by Part 4.
n 1 3 NFA Compliance Rule 2-29(b)(5). Further, NFA Compliance Rule 2-29(g)
includes disclosure documents within the definition of promotional material.
Moreover, NFA Compliance Rule 2-13 adopts the CFTC's Part 4 regulations by
reference.
In any event, CFTC regulations expressly require that a CPO make all
material disclosures when offering pool participations. n14 As a consequence,
to assist CPOs, the CFTC is publishing these views on certain types of
disclosures which should be considered material in connection with past
performance and pool expense information required to be disclosed to pool
participants in order that such required disclosures are not misleading.
Additionally, the CFTC is requesting comment on matters related to the
presentation of prior performance data by CPOs and CTAs and the presentation of
the fees, commissions and expenses incurred by pools. Although the positions
expressed in this release reflect the CFTC's views regarding appropriate
disclosure in pool disclosure documents, the CFTC is interested in receiving
comments on the interpretive positions and other issues set forth herein. The
CFTC, in consultation with the SEC, will review the comments received in
response to this release with a view toward determining whether further action
in addition to this statement is appropriate.
n 1 4 A CPO is required to disclose all material information to existing or
prospective pool participants even if such information is not otherwise
specifically required by Part 4. 17 CFR 4.21(h).
II. Commodity Pool Participation and Performance
In recent years, the futures markets have grown both in volume and in the
diversity of products traded thereon, especially the financial, foreign currency
and equity-related products. The commodity pool is an increasingly popular means
of participation in these markets by the individual customer. In a typical
commodity pool, the promoter or CPO pools particpants' funds and uses a portion
thereof to margin futures positions held by the pool. n15 Trading decisions for
the commodity pool generally are made by one or more CTAs selected by the CPO.
n 15 See 1 P. Johnson, Commodities Regulation @ 1.15, at 52 (1982).
The disclosure document provided to pool participants must meet applicable
registration, disclosure, antifraud and other requirements of the federal
securities laws as well as comply with the CEA and all applicable CFTC
regulations. n16 Persons who propose to offer participations in public
commodity pools should carefully review the requirement that, in addition to the
specific disclosures required by Part 4 of the CFTC's regulations, CPOs must
disclose all material information to existing and prospective pool participants.
n 1 7
n 1 6 See 7 U.S.C. 6m(2), 15 U.S.C. 77b(1) and 15 U.S.C. 78c(a)(10).
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n 1 7 See n.14, supra.
Certain recently published studies suggest that the actual performance of
CTAs employed by publicly held commodity pools was significantly poorer than
their previous performance as disclosed in the prior performance tables included
in those pools' disclosure documents. n 1 8 CFTC staff is currently reviewing
the study results and will investigate possible reasons for the differences in
performance reported by the authors if available data permits. To the extent
that significant differences exist between the past performance records required
to be disclosed in a particular pool disclosure document and the actual
subsequent performance of that pool, such differences may be the result of
differences between the trading and money management strategies of the current
pool and those of the pool or pools previously offered by the relevant CPO or
CTAs. For example, it would not be uncommon for significant differences to exist
in the proportion of funds committed to margin futures positions and, thus, in
the ratio of trading margin to overall equity. n 1 9
n 1 8 See Elton, Gruber and Rentzler, New Public Offerings, Information and
Investor Rationality: The Case of Publicly Offered Funds, 62 J. Bus. L. 1-15
(January 1988); see also Edwards, Commodity Pool Performance: Is the Information
Contained in Pool Prospectuses Useful?, Working Paper Series No. 16, Center for
the Study of Futures Markets, Columbia Business School (January 1988).
n 1 9 Id.
Pending completion of its review of the recently published studies, the
CFTC recommends that special attention be given to disclosures in the following
areas.
III. Performance Reporting
A. Length of Period Covered by Performance Tables
As mentioned above, CFTC Regulation 4.21 requires that the disclosure
document provided to prospective pool participants include, among other things,
information with respect to the actual performance of previously operated
commodity pools and trading accounts of the CPO, the CTA, and their respective
principals. Such prior performance tables must be provided for at least the
lesser of three years or the life of the commodity pool or individual trading
account for which the performance data are provided. n 2 0 Beyond the required
three years, CPOs have discretion to elect to provide historical performance
data for additional time periods subject to the obligation to disclose all
material information and to the antifraud provisions of the CEA. n 2 1 Where
performance history in excess of the required three years is provided for either
the CPO or CTA, the CPO must ensure that the additional performance data is not
selected in such a way as to misrepresent the overall performance history of the
CPO or CTA. n22 In addition, where performance history for periods greater than
three years is shown, the CFTC staff generally has advised that at least five
years' performance or the entire performance history, if it is available, should
be presented. In this
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connection, the CFTC notes that a CPO is required to maintain all pool
records for at least five years. n 2 3
n 2 0 17 CFR 4.21(a)(4)(i) and 4.21(a)(5)(i).
n 2 1 See 17 CFR 4.21(a)(4), 17 CFR 4.21(h) and 7 U.S.C. 6o.
n 2 2 17 CFR 4.21(a)(4), 4.21(a)(5) and 4.21(h).
n 2 3 17 CFR 4.23 and 1.31.
Comment is requested as to whether the presentation of prior performance
data in excess of the currently required three years is useful to participants
in making the decision to purchase a pool participation. If so, further comment
is requested as to whether the CPO should be required to present the performance
history of the CPO and CTA for a longer period such as five years or more, if
such performance history is available. In addressing this issue, commenters
should discuss specifically those factors that would cause a presentation
covering more than three years to be relevant to potential participants in a
currently offered pool. The CFTC also requests comment generally on the extent
to which the presentation of prior performance may be useful to persons in
deciding whether to purchase an interest in a given pool offering in view of the
general nonpredictability of trading results.
B. Periodic Reporting
CFTC regulations require that the prior performance of a pool's CPO and CTA
be presented on at least a quarterly basis. n24 However, in the CFTC's view,
performance disclosure on a monthly basis may be more appropriate, particularly
when such monthly performance is volatile.
n 24 17 CFR 4.21(a)(4)(ii) and 4.21(a)(5)(ii).
The CFTC believes that a majority of CPOs and CTAs affiliated with publicly
offered commodity pools currently maintain records and present performance
history in their disclosure documents on a monthly basis. The CFTC recommends
that all CPOs and CTAs affiliated with, or contemplating an affiliation with, a
publicly offered commodity pool should, if not currently doing so, consider
maintaining records of past performance and presenting such performance on a
monthly basis. Moreover, to facilitate a pool participant's review and analysis
of prior performance presentations, all prior performance tables for the CPO and
its CTAs should be shown, to the extent possible, in a consistent format.
Comment is requested as to whether monthly performance reporting should be
required in all cases.
C. Composite Performance
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CFTC regulations permit prior performance disclosure to be made on either
an individual or a composite basis. n25 If a composite presentation is elected,
separately captioned composites of previously traded public pools of the CPO and
its CTAs may be appropriate when differences between the performance of such
public pools and any private accounts are material. n26 Comment is requested as
to whether there should be a separate presentation of prior public pool
performance of the CPO and its CTAs in all cases or whether a textual
explanation of the differences in such account performance may be sufficient in
some circumstances. Specifically, the CFTC requests comment on whether
performance disclosure in public pool disclosure documents should be limited to
the prior performance of publicly offered pools or whether the performance of
publicly offered pools should be highlighted.
n 25 17 CFR 4.21(a)(4)(iv) and 4.21(a)(5)(iii).
n 26 The CFTC has been advised that such differences are likely if the
private account performance reflected proprietary trading. See also 17 CFR
4.21(a)(4)(iv)(B).
To enable a participant better to evaluate prior performance presentations,
prior performance tables in a public pool disclosure document should be
accompanied by textual disclosure regarding any material differences in trading
objectives for the pools or trading accounts displayed in the prior performance
tables and those objectives for the pool for which the disclosure document is
being distributed. n27 For example, specific disclosure should be considered
where the margin-to-equity ratio of the commodity pools of trading accounts on
which historical performance data are based is materially different from that
which will be permitted in the currently offered commodity pool or where there
are other material differences in how the current pool will be traded.
n 27 17 CFR 4.21(a)(4)(iii) and 4.21(a)(5)(iii)(A).
Comments are requested concerning what other factors may be relevant to
properly interpreting the information contained in the prior performance tables.
Comments are also requested as to whether requiring monthly performance
disclosure and improving the rate of return calculations as discussed below
would be sufficient to address the issues raised above.
D. Additions and Withdrawals and the Rate-of-Return Calculation The
CFTC's regulations require that CPOs and CTAs also present performance in terms
of the rate of return for the period contained in the performance table by
dividing net performance for the period by the beginning net asset value
("BNAV") for that period. n28 The CFTC chose this formula over more complex
measures in order to minimize computational and reporting burdens upon CPOs.
This approach assumes that additions or withdrawals are ordinarily made at the
beginning of a reporting period. However, as that may not be the case in
practice, this method may result in unjustifiably high or low rates of return.
If average daily equity ("ADE") were used as a divisor, or adjustments were made
to BNAV to achieve a closely equivalent result, the rate of return may be
affected less by the timing of additions and withdrawals. The CFTC staff has
accepted such alternate presentations where it has
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been demonstrated that timing differences with respect to additions and
withdrawals would materially distort performance.
n 28 17 CFR 4.21(a)(4)(ii) and 4.21(a)(5)(ii).
The CFTC requests comment on the feasibility of requiring that rates of
return be computed by dividing net performance by ADE. The CFTC also requests
comment as to whether the use of BNAV still should be permitted when the effects
of using one measure in preference to the other would not materially affect the
rate of return. In this connection, comment is sought specifically on the
feasibility of establishing a standard which would provide guidance as to when
the use of BNAV would be permitted.
IV. Disclosure of Fees, Commissions and Expenses
CFTC regulations require a complete description on all expenses to be
charged to or incurred by a pool, including any interest paid with respect to
pool assets to a person other than the pool itself. n29 In order to facilitate
analysis of the fees and other expenses to be charged to a publicly offered
commodity pool, the CFTC believes that in addition to a narrative description,
CPOs should include a tabular presentation prior to the performance tables that
details the brokerage commissions, incentive, management and transaction fees,
as well as any other expenses attributable to the commodity pool that will be
paid directly or indirectly by participants.
n 29 17 CFR 4.21(a)(7) and 4.21(a)(9). See also 17 CFR 4.22(a).
The CFTC requests comment on whether it should require that this discussion
of expenses be supplemented with a pro forma presentation of prior performance
history which reflects the brokerage commissions and incentive and management
fees that would have been incurred if the fees and expenses charged by commodity
pools and trading accounts presented in the prior performance tables were the
same as those to be charged to the current pool. Such a pro forma presentation
should disclose the actual and pro forma net return achieved for the last three
years. Notwithstanding the foregoing, comment is also requested as to whether
this type of presentation, or other pro forma presentations based on actual
prior results, may cause participants to rely unduly upon prior performance as
an indicator of future performance.
Further, comments are solicited as to whether additional disclosure would
assist prospective participants in assessing the extent to which expenses
charged to a pool could influence the pool's prospective performance. For
example, it may be useful to include in the disclosure document the amount by
which each unit of participant's net asset value must increase in the first year
of trading for the redemption value of that unit to equal the gross purchase
price paid to purchase it. Alternatively, the disclosure statement could include
a calculation of the net asset value per unit, net of sales commissions and
other expenses which will be deducted prior to the funds generated by the sale
of such participation unit being pooled for futures trading. In this connection,
commenters should address the problem of assessing prospectively the effect of
incentive fees.
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Commenters also are invited to address whether other disclosure
modifications are needed to make uniform the presentation of fees and expenses,
particularly because the rate of return formula is especially sensitive to the
timing of the deduction of such expenses.
V. Conclusion
Although this interpretive statement and the interpretive statement
published simultaneously herewith by the SEC represent the views of the
respective agencies with respect to certain information which may be material in
connection with disclosure documents filed with the CFTC for the offering of
participations in commodity pools, nothing in the statements should be construed
to diminish the obligation of CPOs and other CFTC registrants to comply with all
applicable disclosure requirements of the CEA and the CFTC's regulations
thereunder. Attention particularly is directed to the antifraud provisions of
the CEA which apply not only to statements made in documents filed with the
CFTC, but also to all statements or omissions made in connection with any pool
offering. n30 The CFTC expects to provide further guidance following review of
the comments received in response to this release and completion of the CFTC's
staff study. In this regard, the agency expects to consult with the SEC
concerning the comments to its companion release.
n 30 CPOs are specifically reminded of the quarterly and annual reporting
obligations set forth in 17 CFR 4.22.
* * * * *
List of Subjects in 17 Part 4
General Provisions, Definitions and Exemption, Commodity Pool Operators,
Commodity Trading Advisors, Advertising.
Issued this 1st day of February 1989.
Jean A. Webb,
Secretary to the Commission.
[FR Doc. 89-2681 Filed 2-3-89; 8:45 am]
BILLING CODE 6351-01-M
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