Effective January 1, 1998, Chicago Mercantile Exchange (CME), Chicago Board of Trade (CBOT), and the Board of Trade Clearing Corporation (BOTCC) adopted a risk based capital requirement at the clearing organization level.  This coordinated risk based capital requirement is currently based upon 8% of customer and 4% of noncustomer risk margin/performance bond requirements.

As this is our industry�s first experience with a risk based capital requirement, we have continuously monitored the requirement for not only compliance but effectiveness as well.  To achieve compliance, we have extensively tested the customer and noncustomer risk maintenance margin/performance bond requirements reported to us. 

To ensure effectiveness, we have constantly reviewed the components of the risk based requirement and its impact to the industry.  Our goal in adopting the requirement, as it is today, is to more closely equate a firm�s capital requirement to the risks it carries.  This has been an on-going process.

More recently, we have examined the risk margin associated with naked long option positions.  Currently, the risk margin on naked long option positions is included in the risk based capital calculation.  However, the risk margin/performance bond requirement on a naked long option position is an assessment of the risk to the valuation of the long option value (an asset) available to meet the risk requirements.  In essence, it represents liquidation risk and is a haircut on the long option value.  Therefore, consistent with the treatment of other margin asset haircuts (e.g. security haircuts), the risk margin on naked long option positions should not be included in the risk based capital computation.  Naked long option positions are defined as long options maintained in an account which are not used to reduce the risk of other futures and/or options positions.

It is important to keep in mind that long option positions, which are used to reduce the risk of other futures and options positions, must be included in the risk margin/performance bond requirement calculations.  Furthermore, at the present time, the exclusion of the risk margin on naked long option positions may require a manual adjustment to your risk margin calculations.

Therefore, the revised risk based capital requirement will require all members to maintain adjusted net capital in excess of the greatest of:

1. Minimum dollar balances of the respective clearing organizations or;
   
   
2. 8% of domestic and foreign domiciled customer and 4% of noncustomer (excluding proprietary) risk maintenance margin/performance bond requirements for all domestic and foreign futures and options on futures contracts excluding the risk margin associated with naked long option positions or;
   
   
3. CFTC minimum regulatory capital requirements or;
   
   
4. SEC minimum regulatory capital requirements.

The new risk based capital requirement excluding the risk margin associated with naked long option positions is effective December 31, 2000.  As this is a new calculation and a manual adjustment is required, please notify your designated self-regulatory organization if you decide to exclude the risk margin on naked long option positions.

In addition, firms must provide written notification of a failure to maintain risk based capital requirements.  Such notice must be provided to each clearing organization/exchange that has adopted risk based capital where membership is held. 

Finally, we continue to work with the CFTC in their efforts to adopt a risk based capital requirement. If you have any questions, please contact CME Audit Department at (312) 930-3230, the CBOT Office of Investigations and Audits at (312) 435-3654, or the BOTCC Risk Management Department at (312) 786-5740.