The holiday season was a quiet time in the halls of the Commodity Futures Trading Commission, but once millennial agitation had subsided, the action picked up quickly.

Perhaps the biggest development: the Chicago Mercantile Exchange updated its proposal to the CFTC to establish cross-margining with the London Clearing House. Last October, the Merc submitted a bare-bones proposal to the CFTC to establish cross-margining agreements with other clearing organizations, anticipating its desire to strike an agreement with the LCH in the future when the Merc and Liffe finally hook up their electronic trading link. The LCH clears Liffe's trades as well as over-the-counter swaps and repurchase agreements via SwapClear and RepoClear.

The CFTC kicked back the Merc's proposal, saying it lacked meat, and gave the exchange until the end of December to beef it up. Last month, the regulator announced that it had received the proposal and was establishing a public comment period from January 24 until February 8.

The Merc's proposal would establish a "two-pot” cross-margining program that would allow participants to cross-margin their positions at the CME Clearing House and LCH, while holding those positions at each clearinghouse in separate accounts. Merc clearing members that are clearing members at LCH and Liffe, or have affiliates that are clearing members at both LCH and Liffe, would be eligible to cross-margin positions in Euribor and Euro-Libor futures and options at Liffe and eurodollar futures and option contracts at the Merc. The proposal takes a two-pot approach in that performance bonds and positions are held in separate accounts by the CME Clearing House and by LCH, as distinguished from a "one-pot” approach in which cross-margined positions and performance bonds are maintained in jointly held accounts.

The CFTC believes the proposal is different from the two-pot cross-margining agreement it recently approved between the Government Securities Clearing Corp. and the New York Clearing Corp., since it raises "issues of transnational insolvency which have not been previously considered in the cross-margining context.”

The proposal raises another issue the CFTC hasn't yet addressed: central clearing of OTC contracts. An approval of the current proposal could open the door for the Merc to offer cross-margining on the LCH's various OTC products, and would seem to encourage U.S. clearinghouses to set up similar facilities in the United States.

Single-stock futures

The CFTC has a lot on its plate these days. On January 20, representatives Tom Bliley (R-Va.), Larry Combest (R-Texas) and Tom Ewing (R-Ill.) sent a letter to the CFTC and the Securities and Exchange Commission supporting the idea of single-stock futures, which has been a hot topic since a federal court last year rejected the SEC's right to prohibit futures on the Dow Jones Transportation Average under the 1982 Shad-Johnson Accord. The ruling galvanized not only the Chicago futures exchanges but also anti-regulatory types in Washington—including, it seems, new CFTC chairman William Rainer, who has publicly supported a diminished role for the CFTC.

The Bliley-Combest-Ewing letter came on the heels of a similar letter sent by Senate Agriculture Committee Chairman Richard Lugar (R-Ind.) and Senate Banking Committee Chairman Phil Gramm (R-Texas) in early January. But the Bliley-Combest-Ewing letter turned up the heat on the regulators, urging them to come up with a "joint legislative plan” by February 21 for "repealing the current prohibition on single-stock futures.” Bliley, Combest and Ewing, who head the House Commerce Committee, the House Agriculture Committee and the House Agriculture Committee's Subcommittee on Risk Management, Research and Specialty Crops, respectively, wrote that the regulators' plan would help them while they mull over CFTC reauthorization legislation this year.

The SEC has been famously loathe to allow any semblance of single-stock futures trading, going to what the Seventh Circuit Court believed were inappropriate lengths to reject futures on the DJTA. The SEC, for its part, is afraid that narrowly based index futures and single-stock futures would inject tremendous volatility into the U.S. equity markets. But the Chicago exchanges and their Congressional representatives argue that the massive OTC markets and more lax restrictions abroad have hurt the U.S. markets. Bliley is in a particularly good position to force the regulators' hands, since his committee oversees the SEC. Last November, the always-circumspect Alan Greenspan issued support for the proposal, as long as "issues about the integrity of the underlying securities markets and regulatory arbitrage can be addressed.”

The arguments for single-stock futures may be compelling, but don't expect the SEC to roll over easily. It'll take many more skirmishes to end this turf battle.

Basel: More Needs To Be Done The cataclysmic blowup of Long-Term Capital Management continues to reverberate. Last month, the Basel Committee on Banking Supervision examined the efforts of banks and banking supervisors in dealing with highly leveraged institutions on the one-year anniversary of its report "Sound Practices for Banks' Interactions with Highly Leveraged Institutions.” While there have been some position steps taken since the report was first issued, the committee says, there is still much work to be done. Some progress has been made in terms of banks' awareness of the potential risks and weaknesses in dealing with HLIs, due diligence in their credit policies, collateral management arrangements, exposure measurement, limit setting, and other risk measurement practices. But more work is needed. In terms of banks, the committee says the due diligence processes for establishing credit relationships with HLIs should be consolidated and developed further, and the process of ongoing counterparty risk assessments should also be improved. Banks should also develop improved exposure measurement techniques and use stress testing more frequently. "Technical difficulties notwithstanding,” says the report, "the Committee feels strongly that further steps need to be taken to move significantly forward in this ongoing process. The Committee will continue to monitor closely industry progress to implement its recommendations.” In terms of banking supervisors, initiatives should be taken at the national level through the ongoing interaction between supervisors and banking institutions. "In particular,” the report says, "supervisors will want to ensure that they continue to have adequate information on banks' exposures to HLIs, though the way in which such information is obtained will differ from country to country. Supervisors may also continue to find it useful to share with their colleagues in other countries material information relating to banks' involvement with HLIs on a bilateral basis.” For a copy of the report, see www.bis.org/publ/index.htm.