legislation to the Congress as expeditiously as possible. In view of the pendency of the joint study, I am not prepared today to discuss what shape legislation should take for the various types of financial futures. In my submitted testimony, I do review the position the Commission took in 1978 on this subject, and more recent developments such as the pending proposals to the FCC by several boards of trade covering stock index futures contracts, including index contracts based on selected industrial or commercial categories. This latter type of index raises even greater regulatory concerns than those raised by a typically broad-based stock index because it would enhance further the opportunity for manipulation or adverse effects on the underlying equities. I might also note in that regard that the Commission itself is now receiving proposals from options exchanges under its jurisdiction for options trading on Ginnie Mae securities and on Treasury notes and bills on which futures contracts are now also being traded. These developments highlight the similarities between financial futures and securities options and the problems raised by disparate regulation of functionally similar instruments. ADOPT MARGIN REQUIREMENTS In my previous testimony on the silver crisis, I took the position that the Congress should provide the Board of Governors of the Federal Reserve System with the authority to adopt margin requirements for all futures trading in order to reduce the likelihood of recurrence, or minimize the impact, of sharp swings in futures prices as experienced in March. I believe that the authority entrusted in the Federal Reserve should be comparable to the authority it exercises over equity securities and options on those securities. As the March silver trading crisis demonstrates, low initial margin requirements facilitate speculation by enabling futures traders to achieve greater leverage. Initial margin for speculators, if set at inordinately low levels, may lead to a volatile market. Without appropriate initial margins, there is no cushion to absorb mark to market calls in response to price movements such as occurred in the recent silver futures crisis. The result is, in effect, a need for a forced extension of credit by the broker each time there is a market movement. Speculators who do not have sufficient equity in their accounts to absorb adverse price movements, and who cannot borrow immediately, are forced to liquidate their positions, thus accentuating price swings. Furthermore, initial margin requirements must be analyzed in light of margin maintenance requirements, which apply on a daily basis after the futures contract is entered into. In certain situations, maintenance requirements may serve as effective backups to low initial margin requirements. In other situations, however, maintenance margin may trigger sharp price swings which put tremendous pressures on those speculators who have only enough capital to meet low initial margin requirements. Thus, in my judgment, we need an expert body with the authority to set the optimal combination of initial and maintenance margins-which provide sufficient protection to investors, without unduly constraining the liquidity of the market. For these reasons, I support the general concept behind S. 2704, which would give one Federal agency authority to set margins in futures trading on all financial instruments. In supporting Federal authority to set margins, however, I recognize that the nature and needs of different markets may justify different levels of margin. Moreover, I recognize that margin may be employed for different purposes-the efficient allocation of credit, the curbing of excessive speculation, and the protection of investors from establishing unduly risky positions. The interagency joint study will be looking very closely at the whole area of margin, and, hence, my views remain open on this subject. The study may conclude, for example, that the economic and customer protection aspects of margin regulation, respectively, should be assigned to different agencies. The Federal Reserve, on one hand, may be better suited to set margin requirements to govern the allocation of credit and restrain excessive speculation. On the other hand, an agency charged with substantive regulatory authority over the market for a particular instrument may be in a better position to set margin requirements, subject to Federal Reserve approval, to achieve any investor protection purpose. These, and other questions, will be asked by the joint study, and I look forward to discussing with you in the near future the conclusions and recommendations of the study. [Statement of Chairman Williams follows:] PREPARED STATEMENT OF HON. HAROLD M. WILLIAMS, CHAIRMAN, (May 29, 1980) Mr. Chairman, and members of the Committee: In response to the request of Chairman Proxmire, I am pleased to appear today in connection with this Committee's hearing on recent events in the silver futures market and on possible legislative and regulatory responses to prevent the recurrence of similar crises which pose dangers to the Nation's financial markets beyond what free markets should be expected to absorb. On a In my remarks today, I would like to discuss briefly the Commission's response to the silver trading crisis of March and the measures which the Commission is considering to protect broker-dealers and their securities customers from the collateral effects of volatile trading in the futures markets. broader level, I will address the need for a re-examination of the current statutory framework for regulating this Country's futures markets. As you may know, from the testimony of Chairman Volcker and Deputy Secretary of the Treasury Robert Carswell given last week, the Commission, the Federal Reserve, and the Department of the Treasury have recently undertaken a joint study of the financial futures markets, with a view toward recommending legislation to the Congress. In discussing legislative approaches, I would also like to comment specifically on the regulation of margin in the futures markets, which is the subject of Senate bill S. 2704, recently introduced by Senator Proxmire. A. The Commission's Response to the March Silver Trading Crisis As you are aware this Commission does not regulate trading in the silver futures market. The events of March, however, have underscored the interdependence of this Country's securities markets and futures markets. This interdependence is heightened as the futures markets move beyond their traditional role as a hedging and risk-shifting mechanism for producers and users of agricultural products. The introduction of futures on exempt securities - that is, futures on certain securities, such as federal obligations, which are statutorily exempted from the registration and reporting requirements of the federal securities laws and on precious metals has attracted to the futures market much larger numbers of securities broker-dealers and traditional investors in securities. Since the March silver break, the Commission has closely monitored the financial condition of securities firms who have held, for their own or their customers' accounts, large positions in silver futures. On the basis of information provided, we do not believe that any such firm is in current financial difficulty as a result of dealings in silver or silver futures. As you are undoubtedly aware, I have recently testified on the effects of the silver market break before the Subcommittee on Commerce, Consumer and Monetary Affairs of the House Committee on Government Operations, and before the Subcommittee on Agricultural Research and General Legislation of the Senate Committee on Agriculture, Nutrition and Forestry. I have provided copies of prepared statements before these Subcommittees for your information. Apart from its monitoring efforts, the Commission is conducting an inquiry into the circumstances surrounding the March silver collapse to determine whether any violations of the federal securities laws occurred during that period. At the same time, the Commission is currently studying possible changes to its financial responsibility rules, particularly in the net capital area, to protect the solvency of broker-dealers from undue risks incurred through futures trading and other activity that could endanger public confidence in the ability of broker-dealers to discharge their role in the securities markets. But it is important to bear in mind that broker-dealers who engage in futures trading are also registered as futures commission merchants with the Commodity Futures Trading Commission. As such, they are subject to the requirements of the CFTC, which has the primary obligation to devise financial responsibility rules for futures trading. If these CFTC rules are not effective in assuring the financial responsibility of broker-dealers with respect to their futures trading, the Commission will need to take compensating regulatory actions in order to protect the overall financial status of broker-dealers trading in both stocks and futures. B. The Statutory Framework for Regulating Futures Trading The recent events in the silver futures market have heightened our broader concerns over the current framework for regulating futures trading. As I have mentioned, the Commission has recently joined in a study with the Treasury Department and the Federal Reserve to analyze the present regulatory approach to financial futures to determine what legislative changes are necessary. We are devoting substantial resources to the completion of this study, and hope to present proposals for legislation to the Congress as expeditiously as possible. In view of the pendency of the joint study, I am not prepared today to discuss what shape legislation should take for the various types of financial futures. As you know, during Congressional hearings on the reauthorization of the CFTC in 1978, the Commission testified on a possible realignment of regulatory responsibilities over futures on corporate issues and stock indexes. In response to an inquiry by the General Accounting Office, the Comission advised the GAO that we perceived no need for a transfer of responsibility over trading in |