What is Commodity Futures Modernization Act (CFMA)
The Commodity Futures Modernization Act, (CFMA) signed into law on December 21, 2000 updates commodity trading regulations. The most notable change was in addressing newer types of financial contracts such as over-the-counter derivatives.
The Act also clarified the responsibilities of two separate regulatory agencies, the Commodity Futures Trading Commission (CFTC) and the Securities and Exchange Commission (SEC), to eliminate overlapping jurisdictions between the two agencies and establish specific enforcement activities for each.
BREAKING DOWN Commodity Futures Modernization Act (CFMA)
The Commodity Futures Modernization Act precisely defined the difference between a commodity and security. A commodity is a necessary good used in the production of other goods or services which is changeable with other goods of the same type. A security is a negotiable financial instrument which is interchangeable, holds some form of monetary value, and which can be traded.
Before the CFMA the difference between commodities and securities had not been precisely defined under old regulations. Earlier regulations saw futures contracts and options on futures contracts under the jurisdiction of the Commodity Futures Trading Commission (CFTC) unless they were otherwise exempt. Yet, stock options and other derivatives with a basis on the indices of interest rates, overall stock markets and specific baskets of stocks might be considered securities.
The Commodity Futures Act stated that derivative transactions would no longer have regulation as either a futures contract or as a securities trade.
Clarifications on Trading Regulations with CFMA
After the CFMA was enacted various financial contracts were exempt from prior laws. For example, while regulatory oversight had previously applied to transactions in financial derivative products between two financial institutions. The ACT reduces such monitoring for transactions in many nonphysical commodities when the two parties to the contract do not execute such an agreement on a trading exchange. However, regulators may still enforce various laws which prohibit fraud and price manipulation.
Although the CFMA did repeal previous bans of the trading of single-stock futures contracts, trades are subject to specific provisions which are enforced by both the Commodity Futures Trading Commission (CFTC) and the Securities and Exchange Commission (SEC). The Act includes predefined procedures to specify each commission’s regulatory authority over these contracts.
Another provision of the CFMA is that it limits or eliminates the regulatory authority of the CFTC over transactions in specific financial instruments such as security warrants, mortgages, repurchase agreements and foreign currencies.
The new law also defines the regulation of swap agreements. Swaps with a basis on the price, yield, value or volatility of a security or group of securities are not subject to specific rules for reporting transactions. However, the SEC will continue to enforce laws which prohibit fraud, price manipulation, and insider trading.
The Act also allowed for trading single stock futures, which had not been legal in the U.S. even though such contracts traded in other countries. These are futures contracts that function the same way as those for other commodities but are contracts that call for delivery of a predefined number of shares of a specific stock.