Amendments to Commodity Pool Operator and Commodity Trading Advisor Disclosure Rules

SUMMARY: The Commodity Futures Trading Commission (``Commission'') is

announcing the adoption of substantial revisions to the disclosure

framework applicable to commodity pool operators (``CPOs'') and

commodity trading advisors (``CTAs''). These amendments are intended to

achieve greater simplicity, focus and clarity in performance history;

to streamline other required disclosures; to improve the presentation

and understandability of disclosures to investors; and to create a more

concise and readable format for Disclosure Documents.

EFFECTIVE DATE: August 24, 1995.

FOR FURTHER INFORMATION CONTACT: Susan C. Ervin, Deputy Director/Chief

Counsel, Barbara Stern Gold, Assistant Chief Counsel, or Christopher W.

Cummings, Attorney/Advisor, Division of Trading and Markets, Commodity

Futures Trading Commission, 2033 K Street, NW., Washington, DC 20581.

Telephone: (202) 254-8955.

SUPPLEMENTARY INFORMATION:

Table of Contents

I. Background

A. Development of Proposed Part 4 Revisions

B. National Futures Association Proposals

C. April 25, 1995 Roundtable Discussion

D. Review of Public Comments

II. Transitional Provisions

III. Summary of Rule Changes

A. Definitions

B. Required Performance Disclosures

C. Required Non-Performance Disclosures

D. Non-Required Disclosures

E. Format Improvements to Enhance Readability

F. Other Revisions

G. Distribution Table

IV. Definitions

A. Major Commodity Trading Advisor: Rule 4.10(i)

B. Major Investee Pool: Rule 4.10(d)(5)

C. Multi-Advisor Pool: Rule 4.10(d)(2)

D. Principal-Protected Pool: Rule 4.10(d)(3)

E. Trading Manager: Rule 4.10(h)

F. Trading Principal: Rule 4.10(e)(2)

G. Break-Even Point: Rule 4.10(j)

H. Draw-Down and Worst Peak-To-Valley Draw-Down:

Rules 4.10(k) and (l)

V. Performance Disclosures: Section-by-Section Analysis

A. Introduction

B. Required Performance Disclosures

1. Required Performance Disclosures in CPO Disclosure Documents:

Rule 4.25

a. Capsule Performance Presentation: Rule 4.25(a)(1)

b. Pools With Three or More Years Operating History that Meet

Contribution Criteria: Rule 4.25(b)

c. Pools With Less Than A Three-Year Operating History: Rule

4.25(c)

2. Required Past Performance Disclosure in CTA Disclosure

Documents: Rule 4.35

3. Time Period for Which Required Past Performance Disclosure

Must Be Made: Rules 4.25(a)(5) for CPOs and 4.35(a)(5) for CTAs

4. Composite Performance Presentations: Rules 4.25 (a)(3) and

(a)(4) for CPOs and Rule 4.35(a)(3) for CTAs

a. CPO Disclosure Documents

b. CTA Disclosure Documents

c. Substantiating Composite Presentations

5. Order of Required Performance Disclosures: Rules 4.25(a)(2),

(a)(3)(i) and (a)(3)(ii) for CPOs and 4.35 (a)(1) and (a)(2) for

CTAs

6. Required Performance Legends

a. Legends Relating to Lack of Trading Experience: Rules 4.25(c)

for CPOs and 4.35(b) for CTAs

b. Legends Relating to Predictive Value of Past Performance:

Rules 4.25(a)(9) for CPOs and 4.35(a)(8) for CTAs

7. Summary Tables

a. Performance Disclosure Requirements

b. Sample Capsule Performance Presentations

c. Sample Bar Chart/Graph of Monthly Rates of Return

C. Non-Required Performance Disclosures

1. Voluntary and Supplemental Performance Disclosures: Rules

4.24(v) for CPOs and 4.34(n) for CTAs

2. Proprietary Trading Results: Rules 4.25(a)(8) for CPOs and

4.35(a)(7) for CTAs

3. Pro-Forma, Hypothetical and Extracted Performance Results

VI. Non-Performance Disclosures: Section-by-Section Analysis

A. Introduction

1. Disclosures Concerning a Pool's CTAs

2. Disclosures Concerning Investee Pools

B. Required Non-Performance Disclosures

1. Prescribed Non-Performance Statements, Table of Contents and

Forepart Information: Rules 4.24 (a) through (d) for CPOs and 4.34

(a) through (d) for CTAs

a. Cautionary Statement

b. Risk Disclosure Statement

c. Table of Contents

d. Information To Be Included in Forepart

e. Persons To Be Identified

2. Business Background: Rules 4.24(f) for CPOs and 4.34(f) for

CTAs

3. Principal Risk Factors: Rules 4.24(g) for CPOs and 4.34(g)

for CTAs

4. Investment Program and Use of Proceeds: Rule 4.24(h) for CPOs

5. Fees and Expenses; ``Break-even'' Analysis: Rules 4.24(i) for

CPOs and 4.34(i) for CTAs

6. Conflicts of Interest: Rules 4.24(j) for CPOs and 4.34(j) for

CTAs; Related Party Transactions: Rule 4.24(k) for CPOs

a. Conflicts of Interests--CPOs

b. Conflicts of Interests--CTAs

c. Related Party Transactions

7. Litigation: Rules 4.24(l) for CPOs and 4.34(k) for CTAs

8. Principal-Protected Pools: Rule 4.24(o) for CPOs

C. Supplemental and Voluntary Disclosures: Rules 4.24(v) for

CPOs and 4.34(m) for CTAs

VII. Other Changes

A. Deletion of Negative Disclosures

B. Use, Amendment and Filing of Disclosure Documents: Rules 4.26

for CPOs and 4.36 for CTAs

C. Disclosure Document Delivery Requirements

1. Notice of Intended Offering and Term Sheet

2. Acknowledgment of Disclosure Document

D. Conforming Changes

VIII. Related Matters

A. Regulatory Flexibility Act

B. Paperwork Reduction Act

I. Background

A. Development of Proposed Part 4 Revisions

On May 5, 1994, the Commission proposed comprehensive revisions to

the disclosure framework for CPOs and CTAs (``Proposing Release'').\1\

This proposal followed more than fifteen years of experience in

administering the part 4 disclosure framework and reflected a

comprehensive review of the disclosure requirements for CPOs and CTAs

designed to identify aspects of the regulatory structure that could be

streamlined or simplified, while enhancing appropriate customer

protection. The first phase of this review resulted in the adoption of

Rules 4.7 and 4.8 in 1992.\2\ The adoption of the rules set forth

herein is part of the second phase of the Commission's review of part

4.\3\ As the Commission

[[Page 38147]]

stated in the Proposing Release, the purposes of these revisions are:

(1) Simplification of past performance disclosures; (2) reduction of

required disclosures concerning matters of secondary relevance; and (3)

clarification and modernization of various requirements.\4\

\1\ 59 FR 25351 (May 16, 1994). The initial sixty-day period for

public comment on the Proposing Release expired on July 15, 1994 but

was extended to August 17, 1994. The proposed amendments included

conforming changes to other rules, e.g., to Rule 30.6, which

pertains to disclosures required of CPOs and CTAs offering pools or

accounts, respectively, to trade in foreign futures contracts as

defined in Rule 30.1. 59 FR 37189 (July 21, 1994).

The Commission's rules governing the operations of CPOs and CTAs

are set forth in part 4 of the Commission's regulations, 17 CFR part

4 (1994). All other Commission rules referred to herein are found at

17 CFR Ch. I (1994).

\2\ Rule 4.7 provides relief from certain disclosure, reporting

and recordkeeping requirements applicable to CPOs for pools offered

and sold only to ``qualified eligible participants'' and CTAs

providing commodity interest trading advice to ``qualified eligible

clients,'' as defined therein, and who satisfy other specified

criteria for relief. Rule 4.8 provides relief from the twenty-one

day Disclosure Document pre-filing requirement (now contained in new

Rule 4.26(d)(1)) for CPOs of certain privately-offered pools.

\3\ This second phase will also consider, in consultation with

the Securities and Exchange Commission and the states, the

appropriateness of a two-part format for pool Disclousre documents.

See 59 FR 25351.

\4\ 59 FR 25351. These revisions do not, however, affect the

basic organizational structure of part 4. Thus, the subparts

thereunder continue to apply as follows: subpart A, to definitions

and exemptions (Rule 4.1 et seq.); subpart B, to the operations and

activities of CPOs (Rule 4.20 et seq.); subpart C, to the operations

and activities of CTAs (Rule 4.30 et seq.); and subpart D, to

advertising (Rule 4.40 et seq.).

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In announcing the adoption of part 4 in 1979, the Commission stated

that the Disclosure Document requirement for CPOs was intended ``to

protect pool participants--particularly those who are unsophisticated

in financial matters--by ensuring that they are informed about the

material facts regarding the pool before they commit their funds.'' \5\

Similarly, the Disclosure Document requirement for CTAs was premised,

in part, upon the view that ``a prospective (CTA) client or subscriber

should be aware of the advisor's commodity and general business

experience if he is to make an informed decision as to whether or not

to avail himself of the advisor's services.'' \6\

\5\ 44 FR 1918, 1920 (January 8, 1979).

\6\ 42 FR 9278, 9279 (February 15, 1977).

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In the Proposing Release, the Commission noted that since the

original adoption of the part 4 rules, the number of registered CPOs

had more than doubled and the number of CTAs had increased nearly

threefold; \7\ assets under the management of CPOs had grown

dramatically; \8\ and the range of available futures and option

contracts had increased substantially.\9\ In addition, during the past

decade, trading structures and investment portfolios have become

increasingly diverse and complex. A single commodity pool may engage

multiple CTAs and invest in multiple commodity pools (``investee

pools'') \10\ or securities funds in order to access the services of

particular traders or advisors, employ multiple trading strategies or

programs, or diversify its portfolio.\11\ Further, commodity pools

frequently retain ``trading managers'' to recommend or select CTAs to

manage, or funds in which to invest, the pool's assets \12\ and may

employ dynamic asset allocation strategies entailing periodic

replacement of, or reallocation of assets among, CTAs for the pool.

\7\ 59 FR 25351, 25352 and n.7.

\8\ 59 FR 25351, 25352 and n.8.

\9\ 59 FR 25351, 25352 and n.9.

\10\ Rule 4.10(d)(4) defines the term ``investee pool,''

discussed more fully below.

\11\ 59 FR 25351, 25353 and n.11.

\12\ 59 FR 25351, 25353. Rule 4.10(h) defines the term ``trading

manager,'' as discussed more fully below.

In implementing its statutory mandate to regulate the activities of

CPOs and CTAs, the Commission has endeavored to refine its rules as

appropriate to respond to changing market conditions in a manner

consistent with customer protection.\13\ The Commission's Division of

Trading and Markets (``Division'') has issued relief on a case-by-case

basis to facilitate application of the disclosure requirements to new

market conditions not contemplated by the existing regulatory

framework, such as multi-advisor and fund-of-funds structures. The

objective in such cases is to apply the rules so as to foster clear and

succinct disclosure of material information, especially concerning fees

and other aspects of fund operations affected by such structures,

taking into account the particular characteristics of the offered

investment vehicle.\14\ In many cases, strict application of existing

disclosure requirements to pools whose CPOs have voluminous performance

histories or which invest through multiple CTAs or investee funds could

result in undue emphasis upon performance record disclosure and reduced

focus upon more germane data. These effects have been mitigated in

appropriate circumstances through grants of exemptive or no-action

relief.\15\

\13\ See, e.g., Rules 4.5, 4.12(b) and 4.7, adopted in 1985,

1987 and 1992, respectively, and the discussion of those rules at 59

FR 25351, 25353.

\14\ 59 FR 25351, 25353-25354. In reviewing Disclosure Documents

for fund-of-funds structures, Division comment letters previously

have stated that although pool documents should provide all

information required by (former) Rule 4.21 for each investee pool,

``generally at the same level of detail as though the investee pool

were providing its own separate disclosure document,'' nevertheless

reduced disclosures are appropriate where less than twenty-five

percent of the assets of the offered pool would be invested in an

investee pool. The Division has also provided guidance through

interpretative statements and advisories with respect to past

performance presentations in Disclosure Documents. See, e.g., CFTC

Advisory 87-2, (1986-1987 Transfer Binder) Comm. Fut. L. Rep. (CCH)

para. 23, 624 (June 2, 1987), defining the term ``beginning net

asset value'' for rate of return calculations; CFTC Advisory

(unnumbered, dated February 27, 1991), (1990-1992 Transfer Binder)

Comm. Fut. L. Rep. (CCH) para. 25,005, permitting CPOs and CTAs to

use alternative rate of return computation methods to more

accurately reflect the return on funds available for trading during

the period; and CFTC Advisory 93-13, [Current Transfer Binder] Comm.

Fut. L. Rep. (CCH) para. 25,554 (February 12, 1993), permitting the

use of an alternative method for computing CTAs' rates of return.

As noted below (see n.15), the staff addresses specific requests

for relief on a case-by-case basis.

\15\ See, e.g., CFTC Interpretative Letter No. 94-12, (Current

Transfer Binder), Comm. Fut. L. Rep. (CCH) para. 25,993 (December

27, 1993) (capsule performance disclosure permitted for CPO's other

pools; CFTC Interpretative Letter No. 94-10, (Current Transfer

Binder) Comm. Fut. L. Rep. (CCH) para. 25,991 (December 16, 1993)

(capsule performance disclosure permitted); CFTC Interpretative

Letter No. 93-107, (Current Transfer Binder) Comm. Fut. L. Rep.

(CCH) para. 25,899 (October 26, 1993) (CPO permitted to omit

disclosures concerning its single advisor pools in Disclosure

Document for a multi-advisor pool under certain conditions); CFTC

Interpretative Letter No. 92-12, (1990-1992 Transfer Binder) Comm.

Fut. L. Rep. (CCH) para. 25,343 (July 28, 1992) (CPO permitted to

omit required disclosures concerning CTAs and investee pools

allocated less than 10% of pool's assets under certain conditions);

and CFTC Interpretative Letter No. 92-9, (1990-1992 Transfer Binder)

Comm. Fut. L. Rep. (CCH) para. 25,300 (June 1, 1992) (CPO permitted

to use two-part Disclosure Document with past performance of CTAs in

second part delivered contemporaneously with first part) and

Advisory 27-92 (June 3, 1992) (Commission has no objection to use of

two-part Disclosure Document subject to conditions set forth in

Interpretative Letter 92-9), issued in connection therewith. The

foregoing generally are discussed at 59 FR 25351, 25353-54.

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Thus, the proposal to revise the part 4 rules reflected the

Commission's experience in addressing a wide range of CPO and CTA

disclosure issues under the prior rules, the evolution of the

marketplace, the development of new trading structures and the views of

the public and of market participants.

B. National Futures Association Proposals

As detailed in the Proposing Release,\16\ on March 15, 1994, the

National Futures Association (``NFA'') submitted to the Commission

proposed amendments to, and interpretations of, NFA's Compliance Rules

based upon the recommendations of NFA's Special Committee for the

Review of CPO/CTA Disclosure Issues (``NFA's Submission''). NFA's

Submission consisted of several parts, including: Proposals concerning

presentation of past performance data, including proposed capsule

formats for CPO and CTA performance; proposed requirements for

calculation and disclosure of break-even analyses by CPOs; proposed

rules for the use of hypothetical trading results by NFA members in

promotional material; and proposals dealing with the use of ``nominal''

or ``notionally funded'' accounts. The proposals requiring, and

providing instructions for, break-even analyses were published for

public comment and subsequently approved by the Commission on April 26,

1995, substantially as proposed.\17\ Rule 4.10(j)

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incorporates by reference NFA's instructions for calculating the

``break-even'' point. The portion of NFA's Submission concerning

hypothetical trading results \18\ was modified by NFA in response to

Commission and public comments and remains under consideration.\19\

Rule 4.41, revised as discussed herein, permits persons to follow

either the Commission or rules adopted by NFA.

\16\ See 59 FR 25351, 25354.

\17\ NFA Compliance Rule 2-13(b) and Interpretive Notice to

Compliance Rule 2-13(b). The ``break-even'' analysis is a

computation of the trading profit that a pool must realize in the

first year of an investor's participation for the investor to recoup

his or her initial investment.

\18\ Proposed NFA Compliance Rule 2-29(c).

\19\ Separately, the Commission contemplates further review of

the subject of hypothetical performance presentations to assure

adequate safeguards against the misuse of such disclosure.

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NFA's Submission included proposed rules with respect to past

performance presentations, which were considered by the Commission in

preparing the recommendations set forth in the Proposing Release. As

noted in the Proposing Release, the portion of NFA's Submission

addressing the use of ``nominal'' or ``notionally funded'' accounts was

remitted to the NFA for further explanation and documentation. The

Commission is not addressing the issue of ``nominal'' or ``notional''

account size in this release.

C. April 25, 1995 Roundtable Discussion

On April 25, 1995, the Commission convened a roundtable discussion

led by Chairman Mary L. Schapiro, entitled ``Rethinking Past

Performance Disclosure,'' to elicit input from industry, academic, end-

user, regulatory and other sources with respect to public policy issues

relevant to past performance disclosure, as well as technical and

pragmatic aspects of past performance presentations. A number of the

speakers expressed the view that past performance data alone are not

directly predictive of future trading results but that past performance

data provide information that is important in evaluating a contemplated

pool offering or trading program. For example, patterns of volatility

and other trading patterns in various market conditions may be evident.

Participants also noted the tendency for past performance data to

have a potent persuasive effect, which some viewed as significantly

exceeding the usefulness of such information as a basis for an

investment decision. Speakers discussed the effect of such factors as

the volume of performance data and the format in which performance

information is provided, the utility of monthly as opposed to annual

rates of return, and the extent to which meaningful benchmarks or

standards are available to measure performance.\20\

\20\ A summary of the roundtable discussion is on file with the

Commission's Office of the Secretariat.

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D. Review of Public Comments

The Commission received thirty comment letters in response to the

Proposing Release: three from persons registered as CTAs; five from

persons registered as both a CPO and a CTA; two from persons registered

as both a CTA and an introducing broker (``IB''); two from persons

registered as futures commission merchants (``FCMs''); two from self-

regulatory organizations; two from a futures industry trade

organization; two from certified public accountants; nine from law

firms; two from bar associations; and one from an academician.

The commenters strongly supported the rulemaking in general. Many

commenters, however, advocated changes in various aspects of the

proposed rules. The Commission has carefully considered the comments

received and, based upon its review of the comments and its own

reconsideration of the proposed amendments, has determined to adopt the

revisions contained in the Proposing Release, with certain

modifications, as discussed below. Comments received on the proposed

amendments are discussed below in the context of the particular

provisions to which they relate.

The Commission believes that the revised rules, as adopted, not

only respond to the concerns of the commenters but, also, meet the

regulatory objectives of this rulemaking. Notwithstanding the adoption

of the rule amendments discussed herein, the Commission intends that

the staff will continue to respond to requests for relief from the Part

4 rules on a case-by-case basis consistent with the objectives and

principles of this rulemaking. The Commission also is exploring

possible mechanisms for addressing additional CPO and CTA disclosure

issues with the benefit of industry and other external input, including

input from other federal and state regulators, on an ongoing basis.

II. Transitional Provisions

The revisions being announced today will become effective thirty

days from the date hereof, but Disclosure Documents may be prepared,

filed and used in accordance with the revised rules prior to the

effective date. To facilitate the transition to compliance with the

revised rules adopted herein, the Commission has determined that, for a

period of six months after the effective date, it will not take

enforcement action against any person solely on the basis of such

person's use of a Disclosure Document prepared pursuant to the former

rules rather than the revised rules. For pools that are continuously

offered, amendment of the Disclosure Document is not required solely

due to the rule revisions announced herein, and operators of such pools

may make conforming changes as part of their next regular update.

Persons to whom the Division previously has granted exemptive or

no-action relief permitting them to prepare Disclosure Documents in

accordance with certain provisions of the proposed rules set forth in

the Proposing Release are reminded that such relief is superseded by

the revisions adopted herein, and any Disclosure Document used by any

such person subsequent to the effective date of these revisions must

comply with the revised rules.

III. Summary of Rule Changes

The following summary is intended to provide interested persons

with information concerning significant changes to the Commission's

disclosure framework and the manner in which those changes vary, if at

all, from the Commission's proposals. These and all other changes to

part 4 and other Commission rules are discussed below in the section-

by-section analysis. For purposes of this release, the rules as in

effect prior to the amendments discussed herein are referred to as the

``former'' rules.

A. Definitions \21\

\21\ The section-by-section analysis of revised and new

definitions is set forth in Section IV below.

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Many of the proposed amendments set forth in the Proposing Release

introduced new concepts into the rules. As a consequence, the Proposing

Release contained several new definitions designed to modernize the

rules in light of marketplace developments and to aid in implementation

of the revised rules. Several of these new definitions have been

adopted with modifications: ``multi-advisor pool'' (Rule 4.10(d)(2));

``principal-protected pool,'' which was proposed as ``limited risk

pool'' (Rule 4.10(d)(3)); ``trading manager'' (Rule 4.10(h)); ``major

commodity trading advisor'' (Rule 4.10(i)); ``major investee pool''

(Rule 4.10(d)(5)); ``trading principal'' (Rule 4.10(e)(2)); and

``break-even point'' (Rule 4.10(j)). Two of the proposed definitions

have been

[[Page 38149]]

eliminated,\22\ and three additional definitions which were not

included in the Proposing Release have been added: ``investee pool''

(Rule 4.10(d)(4)), ``draw-down'' (Rule 4.10(k)), and ``worst peak-to-

valley draw-down'' (Rule 4.10(l)). As adopted, the new definitions are

included in Rule 4.10, and where appropriate, related definitions have

been made part of the same paragraph.\23\

\22\ The definition of ``adverse performance,'' which was

included in proposed Rule 4.25(a)(8), and the definition of

``trading program,'' which was included in proposed Rule 4.34(a)(5),

have not been adopted.

\23\ Pool-related definitions are now sub-paragraphs of Rule

4.10(d) and the definition of ``trading principal'' has been

included as a sub-paragraph of Rule 4.10(e).

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B. Required Performance Disclosures \24\

\24\ The section-by-section analysis of required performance

disclosure revisions is set forth in Section V below.

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1. CPO Disclosure Documents

Rule 4.25 of the amended rules creates a simplified structure for

the presentation of required past performance by CPOs. In each case,

the presentation must cover the five most recent calendar years and

year-to-date, or the entire life of the subject pool, account or

trading program, whichever is shorter. (Rule 4.25(a)(5)).

a. All required past performance presentations for pools are

reduced to a summary, capsule format containing specified core

information. (Rule 4.25(a)(1)). In a change from the proposal, CPOs may

present monthly rates of return required for the offered pool for five

calendar years and year-to-date either in tabular form or in a bar

graph. (Rules 4.25(a)(1) and (a)(2)).

b. For an offered pool which meets the following criteria, the past

performance record of only the offered pool itself is required to be

presented in the Disclosure Document: (1) The pool has at least a

three-year history of trading commodity interests; and (2) during that

minimum three-year period at least seventy-five percent of the pool's

assets were contributed by persons not affiliated with the CPO, trading

manager, CTA or FCM for the pool, or their respective principals. (Rule

4.25(b)).

c. For offered pools which do not meet the three-year operating

history criteria of Rule 4.25(b), past performance data for the offered

pool, for other pools operated by (or accounts traded by) the CPO and

trading manager, and for each ``major'' CTA or ``major'' investee pool

is required.\25\ If the CPO or trading manager has less than a three-

year history in trading pools for which at least seventy-five percent

of pool contributions were made by persons not affiliated with the CPO,

trading manager, or CTA for the pool or their respective principals,

the past performance of the CPO's (and trading manager's) trading

principals \26\ is required to be presented unless that performance

does not differ materially from the performance of the offered pool and

the CPO of the offered pool. (Rule 4.25(c)(2)).

\25\ Rules 4.10(i) and 4.10(d)(5) define the terms ``major

commodity trading advisor'' and ``major investee pool,''

respectively.

\26\ The term ``trading principal'' is defined in Rule

4.10(e)(2).

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d. The requirement in proposed Rule 4.25(c)(3)(iii) to disclose

certain information under the designation ``adverse performance'' has

not been adopted. However, the terms ``major commodity trading

advisor'' and ``major investee pool'' have been redefined to include

CTAs and investee pools with ten percent, rather than twenty-five

percent, allocations of pool assets and a narrative discussion of the

performance history of non-major CTAs and investee pools is required.

(Rule 4.25(c)(5)).

2. CTA Disclosure Documents

Under proposed Rule 4.34(a)(1), CTAs would have been required to

continue to present the performance of the offered trading program in

the full multi-column tabular format previously required under Rule

4.31(a)(3). Performance of all other trading programs directed by the

CTA would have been presented in the new capsule format used in CPO

Disclosure Documents. As adopted, Rule 4.35(a)(1) permits CTAs to use a

capsule format (similar to the capsule format adopted for CPOs) for all

programs. The offered trading program's capsule must include monthly

rates of return and the numbers of profitable and losing accounts in

the trading program. The required monthly rates of return may be

presented either in tabular form or as a bar graph, as is the case for

the offered pool in a CPO Disclosure Document. As with CPO Documents,

all required performance is to be presented for the five most recent

calendar years and year-to-date or for the life of the trading program,

whichever is shorter. (Rule 4.35(a)(5)).

C. Required Non-Performance Disclosures \27\

Required non-performance disclosures are revised as follows.

\27\ A section-by-section analysis of required non-performance

disclosure revisions is set forth in Section VI below.

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1. Break-Even Point. CPOs are required to disclose the pool's

break-even point, indicating the trading profit the pool must realize

in order for a participant to recover his entire initial investment if

he redeems his interest after one year. (Rules 4.10(j), 4.24(d)(5) and

4.24(i)(6) for CPOs). The break-even point is required to be calculated

in accordance with rules promulgated by a registered futures

association pursuant to section 17(j) of the Commodity Exchange Act

(the ``Act'').\28\

\28\ 7 U.S.C. 1 et seq. (1994). As noted above, NFA rules

governing calculations of the break-even point are included in an

Interpretive Notice accompanying NFA Compliance Rule 2-13(b), which

Rule and Notice the Commission approved on April 26, 1995.

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2. Material Litigation. Actions adjudicated on the merits in favor

of persons whose litigation history is required need not be disclosed.

Required disclosures concerning actions against FCMs and IBs are

significantly reduced. (Rules 4.24(l) for CPOs and 4.34(k) for CTAs).

3. Principal Risk Factors. CPOs and CTAs must discuss the principal

risk factors of the pool or trading program, including but not limited

to volatility, leverage, liquidity and counter-party creditworthiness.

(Rules 4.24(g) for CPOs and 4.34(g) for CTAs).

4. Business Background. Disclosure of the business backgrounds of

principals is limited to principals (including officers and directors)

who participate in making trading or operational decisions for the pool

or CTA (or who supervise persons so engaged). Disclosure of CTA and

investee pool operator business backgrounds in CPO Disclosure Documents

is limited to major CTAs and major investee pools. (Rules 4.24(f) for

CPOs and 4.34(f) for CTAs).

5. Conflicts of Interest. Rule 4.24(j) calls for a full description

of actual and potential conflicts involving the CPO, the trading

manager, major CTA or major pool operator and any principal thereof, as

well as any person providing services to the pool or soliciting

participants for the pool. The rule also calls for the disclosure of

any other material conflict of interest involving the pool. Disclosure

with respect to payment for order flow, soft dollar arrangements and

similar arrangements is specifically called for. Rule 4.34(j) for CTAs

also specifically references payment for order flow and soft dollar

arrangements.

6. Fees and Expenses. Rule 4.24(i) requires the CPO to describe the

expenses incurred in the previous year and to be incurred in the

current year and to disclose fees and commissions in connection with

pool solicitations. The rule also specifies significant expense

categories not previously enumerated in Rule 4.21 and requires an

explanation of

[[Page 38150]]

the calculation of the pool's break-even point. If a fee is determined

by reference to a base amount, the manner in which the base amount is

calculated must be disclosed.\29\ (Rules 4.10(j), 4.24(d)(5) and

4.24(i) for CPOs, and 4.34(i) for CTAs).

\29\ Except for this provision, Rule 4.34(i) for CTAs is

unchanged from the former rule.

D. Non-Required Disclosures \30\

1. Proprietary Trading Results. As proposed and as adopted, the

rules provide that proprietary trading results presented in either a

CPO or CTA Disclosure Document must be labelled as such and placed at

the end of the document. (Rules 4.24(v) and 4.25(a)(8) for CPOs, and

4.34(n) and 4.35(a)(7) for CTAs).

\30\ A detailed discussion of non-required disclosures is

included in Sections V and VI below.

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2. Supplemental Information. Proposed Rules 4.24(v) and 4.33(n)

generally would have required that information not specifically called

for by Commission rules or federal or state securities laws or

regulations could only appear following the related required

disclosure. The new rules, as adopted, require that any supplementally

provided performance information be presented after the entire required

performance presentation. Supplemental non-performance information

relating to required disclosures may be included with the respective

related required disclosures. Other supplemental information is

required to follow the last required disclosure, and any proprietary,

hypothetical, simulated or pro forma \31\ trading results must be

placed at the end of the Disclosure Document. Supplemental information

must not mislead or obscure or diminish in prominence any required

disclosure. (Rules 4.24(v) for CPOs and 4.34(n) for CTAs).

\31\ However, pro forma adjustments to performance data are

required for certain purposes and such adjustments are not affected

by the restrictions upon placement of supplemental information. See

Section V.C.3., infra.

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E. Format Improvements to Enhance Readability \32\

A number of revisions to the rules are intended to enhance the

accessibility and prominence of relevant disclosures. Disclosure

Documents are now required to contain a table of contents. Further, the

number and content of various previously required bold-face

``boilerplate'' risk and cautionary statements has been reduced.

Certain core information, including the break-even point, is required

to be set forth in the forepart of the document. (Rules 4.24(a) through

(d) for CPOs and 4.34(a) through (d) for CTAs).

\32\ The section-by-section analysis of format improvement

revisions is set forth in paragraph B.6. of Section V and in Section

VI below.

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A significant change from the Proposing Release is the renumbering

of the CTA disclosure rules to correspond to the numbering of the CPO

disclosure rules. To accomplish this, proposed Rules 4.32, 4.33, 4.34

and 4.35 have been adopted as Rules 4.33, 4.34, 4.35 and 4.36,

respectively, and Rule 4.32 has been reserved.

------------------------------------------------------------------------

CPO CTA

Subject rule rule

------------------------------------------------------------------------

Required delivery of Disclosure Document................ 4.21 4.31

Report to pool participants............................. 4.22 ......

Recordkeeping........................................... 4.23 4.33

General disclosures required............................ 4.24 4.34

Performance disclosures................................. 4.25 4.35

Use, amendment and filing of Disclosure Document........ 4.26 4.36

------------------------------------------------------------------------

F. Other Revisions \33\

The rule amendments also are designed to facilitate pool offerings,

particularly with respect to areas of overlap or potential

inconsistency with the rules of the Securities and Exchange Commission

(``SEC''). Thus, CPOs and CTAs may now update Disclosure Documents

every nine months, rather than every six months as formerly required.

(Rules 4.26(a) for CPOs and 4.36(a) for CTAs.) In addition, CPOs may

provide accredited investors with a notice of intended offering and

statement of the terms of the proposed offering, prior to delivery of a

Disclosure Document. (Revised Rule 4.21(a) for CPOs.)

\33\ The section-by-section analysis of other revisions

(including: Deletion of certain requirements to state that a

disclosable situation does not exist; changes to the Disclosure

Document amendment, filing and use requirements; and technical

conforming changes) is set forth in Section VII below.

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G. Distribution Table

In light of the extensive substantive and organizational revisions

to the content of Disclosure Documents, and therefore to the part 4

rules, the Commission is setting forth below a distribution table to

assist interested persons in complying with the new disclosure

framework for CPOs and CTAs.

Distribution Table

------------------------------------------------------------------------

Old section New section

------------------------------------------------------------------------

1.55(a)(1)(iii)

4.10(d)............................ 4.10(d)(1)

4.10(d)(2)-(d)(5)

4.10(e)............................ 4.10(e)(1)

4.10(e)(2)

4.10(h)-(1)

4.21(a)............................ 4.21(a)

4.24(c)

4.24(d)

4.21(a)(1)(i)-(1)(vii)............. 4.24(d)(1)-(d)(2), 4.24(e)

4.21(a)(1)(viii)................... 4.24(h)

4.24(d)(3), 4.24(d)(5)

4.21(a)(2)......................... 4.24(f)

4.24(g)

4.21(a)(3)......................... 4.24(j)

4.21(a)(4)......................... 4.24(n), 4.25

4.21(a)(5)......................... 4.24(n), 4.25

4.21(a)(6)......................... 4.24(t)

4.21(a)(7)......................... 4.24(i)(i)-(i)(4)

4.21(a)(8)......................... 4.24(s)

4.21(a)(9)......................... 4.24(h)(4)

4.24(o)

4.21(a)(10)........................ 4.24(p)

4.21(a)(11)........................ 4.24(q)

4.21(a)(12)........................ 4.24(r)

4.24(k)

4.21(a)(13)........................ 4.24(l)

4.21(a)(14)........................ 4.24(i)(5)

4.21(a)(15)........................ 4.24(m)

4.21(a)(16)........................ 4.24(u)

4.24(v)

4.21(a)(17)........................ 4.24(b)

4.21(a)(18)........................ 4.24(a)

4.21(b)............................ 4.26(c)

4.21(c)............................ 4.24(d)(4)

4.21(d)............................ 4.21(b)

4.21(e)............................ 4.26(a)

4.21(f)............................ 4.26(b)

4.21(g)............................ 4.26(d)

4.21(h)............................ 4.24(w)

4.31(a)............................ 4.31(a)

4.34(c)

4.34(d)

4.31(a)(1)(i)...................... 4.34(d)(1)

4.31(a)(1)(ii), 4.31(a)(iv)........ 4.34(e)

4.31(a)(1)(iii).................... 4.34(h)

4.31(a)(2)......................... 4.34(f)

4.34(g)

4.31(a)(3)......................... 4.34(m), 4.35

4.31(a)(4)......................... 4.34(i)

4.31(a)(5)......................... 4.34(j)

4.31(a)(6)......................... 4.34(l)

4.31(a)(7)......................... 4.34(k)

4.34(n)

4.31(a)(8)......................... 4.34(b)

4.31(a)(9)......................... 4.34(a)

4.31(b)............................ 4.36(c)

4.31(c)............................ 4.34(d)(2)

4.31(d)............................ 4.31(b)

4.31(e)............................ 4.36(a)

4.31(f)............................ 4.36(d)

4.31(g)............................ 4.34(o)

4.32............................... 4.33

4.41(b)(1)......................... 4.41(b)(1)(A)-(b)(1)(B)

------------------------------------------------------------------------

IV. Definitions

A. Major Commodity Trading Advisor: Rule 4.10(i)

In proposed Rule 4.10(k), the term ``major commodity trading

advisor''

[[Page 38151]]

would have been defined as a CTA allocated or intended to be allocated

at least twenty-five percent of the pool's aggregate initial margin and

premiums for futures and commodity option contracts. The Commission

requested comment concerning this proposed definition, specifically as

to the use of a percentage of the pool's aggregate initial margin and

premiums for futures and commodity option contracts as compared to a

percentage of the pool's total assets, which was proposed in Rule

4.10(l) as the basis for determining whether an investee pool would be

a major investee pool. The Commission asked whether the proposed

distinction between the definition of major CTA and major investee pool

would appropriately reflect the relative risks of direct futures

trading as compared to trading through vehicles which limit the risk of

loss to the initial investment.

The majority of the commenters on the major CTA definition

recommended that the definition be based on the percentage of the

pool's net asset value allocated to the CTA, rather than on the

percentage of the pool's aggregate initial margin and option premiums.

Commenters stated that it would be difficult to determine how much of

the assets allocated to a CTA would be used for margin and premiums,

noted that pool operators do not base allocations to CTAs on margins

and premiums, and urged that the amount of assets allocated to a CTA

better indicates the CTA's potential impact on the pool's performance.

Several commenters suggested substitute benchmarks, including standards

based on the CTA's ``trading level,'' i.e., the portion of the pool's

``market exposure'' allocated to the CTA and the portion of the pool's

assets committed to trading that had been allocated to the CTA. The

Commission was also urged to provide expressly that pool assets

allocated to a CTA include notional equity, since otherwise the

standard may fail to reflect the actual portion of the pool's assets at

risk with the CTA, and to use the percentage of pool assets allocated

to an advisor specified in the written agreement between the advisor

and the pool operator to measure the allocation amount, regardless of

how such allocations are drawn upon by advisors from time to time for

margin and premiums. A number of commenters expressed agreement with

the proposed twenty-five percent threshold amount (while urging that it

be based on pool assets).

The Commission agrees with the concept advanced or implicit in

several of the comment letters that a key objective of defining major

CTAs is to gauge the ability of the various CTAs for the pool to place

the assets of the pool at risk. To further this objective, the

Commission has adopted a revised definition of major CTA in Rule

4.10(i). Under the revised definition, the determination as to whether

a CTA is a major CTA is based upon the percentage allocation to the CTA

of the pool's aggregate net assets or the aggregate value of the net

assets allocated to the pool's trading advisors, whichever is smaller,

as determined by the agreement between the CPO and the CTA. These

alternate measures are designed to assure that the major CTA definition

identifies CTAs which have the ability to expose the pool's assets to

significant risk because the amount of funds over which they have

trading authority represents a significant proportion either of the

pool's net asset value or of the aggregate value of the assets

allocated to the pool's trading advisors, whichever is less.\34\ As

discussed more fully below, the Commission has determined to use a

lower percentage threshold of ten percent in lieu of the proposed

twenty-five percent threshold as part of a restructuring of the CTA and

investee pool performance disclosure requirements of Rule 4.25 to

eliminate the proposed category of ``adverse performance,'' which would

have applied to CTAs with allocations of ten percent to twenty-five

percent of the pool's futures margins and commodity option premiums.

\34\ Adoption of this standard for determining a major CTA is

not intended to address or relate to the use of so-called

``notional'' or ``nominal'' account sizes for purposes of

calculation of rates of return.

---------------------------------------------------------------------------

Thus, under the alternate test being adopted in Rule 4.10(i), if,

for example, the total dollar value allocated to advisors for commodity

interest trading represented fifty percent of the net asset value of

the pool, a trading advisor allocated ten percent of the total dollar

value allocated to advisors, even though that amount would represent

less than ten percent of the pool's assets, would be a major CTA.\35\

This result is appropriate because the major CTA definition is designed

to include CTAs who hold authority over a substantial portion of the

pool's commodity interest trading, even if the absolute dollar value of

the funds allocated to the CTA is relatively small compared to the

total assets of the pool. Conversely, in the unlikely scenario of a CTA

having an allocation that, although insignificant compared to the

aggregate allocations to CTAs, is significant relative to the assets of

the pool, that CTA should also be considered major. This scenario could

occur if CTAs collectively are allocated more than the net asset value

of the pool; \36\ in such a case, a CTA might, in effect, be trading

more than ten percent of the pool's assets even though his allocation

represented less than ten percent of total CTA allocations. In such a

case, the CTA should be considered a major CTA, thus potentially

resulting in a pool having more than ten major CTAs, based upon the

level of exposure of pool assets.

\35\ The standards discussed herein do not affect the scope of

the existing exemption available under Rule 4.12(b), which provides

an exemption from, inter alia, past performance disclosure, for

pools that commit no more than ten percent of the fair market value

of their assets to establish commodity interest positions and trade

such commodity interests in a manner solely incidental to their

securities trading.

\36\ The Commission does not encourage such allocations and

notes that the leverage inherent in such vehicles creates

corresponding risks, which must be appropriately disclosed. The

Commission notes the recent heightened recognition in the domestic

and foreign regulatory communities of the risks inherent in

leveraged instruments and trading vehicles.

---------------------------------------------------------------------------

Because the major CTA definition is intended to identify advisors

whose trading is significant to the pool in terms of overall risk, any

percentage allocation figure based upon a single benchmark such as

funds allocated by written or other agreement is likely to provide only

a rough comparative measure. This is so because trading advisors'

programs may lead to different degrees of futures or other risk

exposure and different volatility patterns despite the same

quantitative allocation of funds. Consequently, in determining whether

a trading advisor's performance should be disclosed as material

information, even if the trading advisor would not constitute a major

CTA under the definition set forth in Rule 4.10(i), the pool operator

should assess the likelihood that the CTA's trading, given the leverage

used, may expose significantly more of the fund's net asset value in a

worst case scenario than his percentage allocation level would

indicate. Such a case may warrant inclusion of capsule performance

information for the CTA even if his allocation does not exceed the ten

percent threshold. In most cases, however, a textual discussion will

suffice, and the Commission has emphasized the requirement for this

type of supplementary disclosure as to non-major CTAs generally by

adopting Rule 4.25(c)(5), discussed infra. Further, a CTA's performance

may be marketed in such a manner as to render more comprehensive

disclosure of his performance material, e.g., the CTA may be accorded

``major'' importance by

[[Page 38152]]

virtue of prominent references to such CTA in promotional material.

The comments indicated, and the Commission would generally expect,

that allocations to CTAs would generally be evidenced by written

agreement, between the CPO (or the trading manager, if any) on behalf

of the pool and the CTA, assigning a particular dollar amount of the

pool's assets to be traded by the CTA. This dollar amount would be

converted into a percentage using the alternate standards in Rule

4.10(i). CPOs should be prepared to document their determinations as to

the status of CTAs as major or non-major for audit purposes but, in

most cases, the written agreement should be sufficient.

Proposed Rules 4.10(k) and 4.10(l) would have required that

``major'' CTA and investee pool status be determined at the time the

Disclosure Document is prepared \37\ and on an ongoing basis.\38\ As

the Commission explained in the Proposing Release, the ``major

commodity trading advisor'' and ``major investee pool'' definitions are

intended to include CTAs or investee pools to whom the CPO of a pool

that has not commenced trading intends to make allocations at or above

the specified thresholds.\39\ Similarly, any CTA or investee pool to

whom the CPO of an operating pool intends to reallocate assets such

that the allocations to such CTA or investee pool will total ten

percent or more also would be included. One commenter recommended that

the asset allocations which determine major CTA or major investee pool

status only be required to be accurate as of a date not more than

ninety days prior to the date of the Disclosure Document. In response,

the Commission notes that, pursuant to Rule 4.26(c), the CPO must

notify existing participants of changes in major CTAs and investee

pools, to the extent they represent material changes, within twenty-one

days and must so notify previously solicited prospective participants

prior to accepting or receiv- ing funds from such prospective

participants. This can be accomplished by formally amending the

Disclosure Document, ``stickering'' the document, including information

in an Account Statement, or other similar means. Whether a given major

CTA or investee pool change is material would depend upon a variety of

factors such as the overall distribution of pool assets to CTAs and

investee pools, the historical frequency of such changes and the pool's

overall trading program. Substitutions of, and reallocations to, CTAs

or investee pools are more likely to be material changes for a pool

with one or two trading advisors, than for a pool that accesses a

variety of advisors and investee pools and that redirects its assets

frequently in response to changes in market conditions.

\37\ The definitions adopted in Rules 4.10(i) and 4.10(d)(5)

include CTAs and investee pools ``allocated or intended to be

allocated * * *''

\38\ Rule 4.26(c) requires distribution of corrections of any

material inaccuracies to all participants within twenty-one days of

the date on which the CPO knows or has reason to know of the

inaccuracy.

\39\ 59 FR 25351, 25357.

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B. Major Investee Pool: Rule 4.10(d)(5)

Proposed Rule 4.10(l) would have defined ``major investee pool'' as

an investee pool allocated or intended to be allocated at least twenty-

five percent of the assets of a pool. As noted above, in contrast to

the proposed definition of major CTA, which would have relied upon a

percentage of the pool's initial futures margin and commodity option

premiums, the major investee pool definition was based upon the

percentage of the assets of the investor pool allocated to the investee

pool. This distinction in the basis for determining allocations to

pools was based upon the fact that investments in other pools generally

expose the investor pool only to loss of the initial investment and

that the full amount of the investment is required to be paid at the

inception of the investment. The relative importance of investee pools

to prospective pool participants is thus appropriately determined by

reference to the proportion of the pool's total assets actually

invested in the investee pool, and the major investee pool definition

did not appear to present the same issues concerning quantification of

relative risk exposure as the major CTA definition.

Commenters who addressed the major investee pool definition pointed

out that ``investee pool'' was not defined in the Proposing Release or

in existing Commission rules. The Commission is adopting in Rule

4.10(d)(4) a definition of ``investee pool'' as ``any pool in which

another pool participates or invests, e.g., as a limited partner

thereof.'' The Commission is adopting as Rule 4.10(d)(5) a definition

of ``major investee pool'' that differs from the proposal in that it

specifies that the allocation threshold is ten percent of the net asset

value of the pool, instead of twenty-five percent of the assets of the

pool. This modification was made in order to make the allocation

measure consistent with the capsule performance format, which calls for

net asset value. As in the case of the major CTA definition, the

proposed twenty-five percent threshold has been reduced to ten percent

in light of the elimination of the proposed ``adverse performance''

disclosure requirement for CTAs and investee pools with allocations

ranging from ten to twenty-five percent. One commenter noted that in

determining the percentage of a pool's assets allocated to an investee

pool, as with CTA allocations, notional equity should be included in

order to capture the risk exposure created by the investee pool's

trading. This approach was advocated because the percentage of the

offered pool's assets used to purchase the participation in an investee

pool may not reflect the additional risk created where the assets of

the investee pool are traded at a leverage factor that results in

trading exposure of, for example, twice the actual assets of the

investee pool. Although the Commission does not believe that this

consideration warrants express treatment in the major investee pool

definition, it recognizes that there may be applications of the major

investee pool definition, as in the case of CTA allocations, where the

basic benchmarks used in the rule do not capture all of the investee

pools that may be of major impact on the offered pool. In such cases,

i.e., where the investee pool is traded on a highly leveraged basis,

the pool operator should be mindful of the obligation to disclose all

material information and should take into consideration the nature of

the investee pool's trading in determining whether it should be treated

as a major investee pool for disclosure purposes.

The time at which major investee pool status is determined is

discussed in paragraph A, above.

C. Multi-Advisor Pool: Rule 4.10(d)(2)

Proposed Rule 4.10(h), the multi-advisor pool definition, would

have employed a twenty-five percent or greater allocation standard

based on the pool's aggregate initial margin and premiums for futures

and commodity option contracts. Thus, as proposed, the ``multi-advisor

pool'' definition effectively would not have applied if a pool had one

major CTA or major investee pool, and the minimum number of CTAs in a

multi-advisor pool would have been five. Two commenters asserted that

any pool with two or more CTAs should be considered a multi-advisor

pool, although one commenter acknowledged that a pool that allocated

ninety percent of its assets to one CTA should not qualify as a multi-

advisor pool. As adopted, the definition of ``multi-advisor pool'' in

Rule 4.10(d)(2) is a pool in which no CTA is allocated or intended to

be allocated more than twenty-five percent of the pool's funds

available for commodity interest trading

[[Page 38153]]

and in which no investee pool is allocated or intended to be allocated

more than twenty-five percent of the pool's net assets. (Rule

4.10(d)(2)). In determining whether a CTA has been allocated more than

twenty-five percent of the pool's funds available for commodity

interest trading, the alternate standard in the major CTA definition

should be used, i.e., the percentage allocation is the amount of funds

allocated to the trading advisor by agreement with the CPO, expressed

as a percentage of the lesser of the aggregate value of the assets

allocated to the pool's trading advisors or the net assets of the pool

at the time of allocation.

D. Principal-Protected Pool: Rule 4.10(d)(3)

The term ``limited risk pool'' was defined in proposed Rule 4.10(i)

as a pool (commonly referred to as a ``guaranteed pool'') that is

designed to limit the loss of the initial investment of its

participants. Commenters pointed out that most pools are formed as

limited partnerships, thus limiting at least some of the participant's

risk. Other commenters offered alternative terms \40\ or suggested that

the definition specify that loss would be limited by guaranty, letter

of credit or other third-party undertaking. As adopted in Rule

4.10(d)(3), the term has been redesignated ``principal-protected

pool,'' but the definition is unchanged from that set forth in the

Proposing Release.

\40\ Suggested options included ``capital protected pools'' and

``principal return guaranteed pools.''

---------------------------------------------------------------------------

E. Trading Manager: Rule 4.10(h)

As proposed in Rule 4.10(j), and as adopted in Rule 4.10(h), the

``trading manager'' of a pool is defined as any person other than the

pool's CPO with authority to allocate pool assets to CTAs or investee

pools. Rule 4.10(h) further makes clear that sole or partial authority

will bring a person within the trading manager definition.

No comments addressing the trading manager definition were

received. Commission rules have not previously expressly taken account

of pool structures in which a trading manager, rather than the pool's

CPO, allocates pool assets. The Commission emphasizes that trading

managers are CTAs and are required to be registered as such. Thus,

although trading managers do not function as direct traders for the

pool, they have the ability to influence the pool's trading to a very

significant degree. Due to the importance of the role of trading

manager, in a number of contexts the proposed rules would have made

disclosure of the trading manager's performance a substitute for that

of the CPO. However, as noted below, the Commission has revised the

proposed rules to require disclosure both as to a pool's CPO and the

trading manager, if any, in a number of contexts, e.g., conflicts of

interest, on the ground that in the vast majority of cases, even if the

CPO has delegated substantial responsibility to the trading manager to

hire and monitor CTAs, the CPO retains ultimate responsibility for

operation of the pool. However, with respect to past performance

disclosure, if the CPO has completely delegated trading authority to a

trading manager and the past performance of the trading manager does

not differ materially from that of the commodity pool operator, only

the trading manager's past performance is required to be disclosed.

F. Trading Principal: Rule 4.10(e)(2)

A ``trading principal'' would have been defined in proposed Rule

4.10(m) as a principal of a CPO or CTA who participates in making

commodity interest trading decisions for a pool or client or who

supervises, or has authority to allocate pool assets to, persons so

engaged. The sole commenter who addressed this definition urged that it

be limited to principals who make trading decisions, excluding

principals who supervise or hire traders. The Commission notes,

however, that persons who select or supervise traders effectively

determine how a pool's or client's assets will be traded. Accordingly,

where disclosure of information concerning traders is appropriate, the

same information should be required of those who supervise or hire

them. As adopted in Rule 4.10(e)(2) only grammatical changes were made

to the definition of ``trading principal'' in proposed Rule 4.10(m).

G. Break-Even Point: Rule 4.10(j)

In order to make the impact of costs and fees on an investment more

understandable to the prospective investor, the Commission proposed

that the narrative discussion of fees and expenses be supplemented by

presentation of the ``break-even point'' for an offered pool and a

clear explanation of how that break-even point is calculated. Proposed

Rule 4.10(n) would have defined ``break-even point'' as the trading

profit that a pool or trading program must realize in its first year to

equal all fees and expenses such that a participant or client will

recoup its initial investment, as calculated pursuant to rules

promulgated by a registered futures association.\41\

\41\ Proposed Rule 4.10(n) would also have required that the

break-even point be expressed as a percentage of the minimum unit of

initial investment based upon assumed redemption of the initial

investment at the end of the first year of investment.

---------------------------------------------------------------------------

Many commenters supported the proposal to require disclosure of a

pool's break-even point.\42\ However, comments on the break-even point

(and the requirement to disclose the relevant calculations) indicated

some confusion regarding whether the break-even point is based on the

pool's first year of operation or an investor's first year of

participation in the pool. For ongoing pool offerings, commenters

suggested that the break-even point be optional after the first year of

a pool's operation, that it be based on a prior year's actual results,

or that a range of break-even points be permitted keyed to various

total offering sizes.

\42\ Comments addressing the manner of calculating the break-

even point are discussed below with Rule 4.24(i) (``Fees and

Expenses'') in paragraph B.5. of Section VI.

---------------------------------------------------------------------------

As adopted, Rule 4.10(j) defines the term ``break-even point'' as

the trading profit that a pool must realize in the first year of a

participant's investment to equal all fees and expenses such that the

participant will recoup its initial investment. The break-even point is

required to be calculated pursuant to rules promulgated by a registered

futures association and it must be expressed both as a dollar amount

and as a percentage of the minimum unit of initial investment. The

proposed definition referred to the trading profit that a pool or

trading program must realize in the pool or trading program's first

year, and the break-even point was not expressly required to be

presented as a dollar amount.\43\

\43\ Rule 4.10(j) omits the reference in the proposed rule to

``trading program'' and ``client.'' A break-even point is not

required for CTA Disclosure Documents, as CTA clients generally are

subject to a much simpler fee and expense structure than are pool

participants.

---------------------------------------------------------------------------

The Commission is clarifying that the break-even point must present

the trading profit that the pool must realize in the first year of an

investor's participation in order for the investor to recoup his

initial investment, and Rule 4.10(j) as adopted so states. As noted

above, Rule 4.10(j) provides that the break-even point must be

calculated pursuant to rules promulgated by a registered futures

association. NFA's Interpretive Notice accompanying its Compliance Rule

2-13(b) sets forth the manner in which the break-even point must be

calculated and includes a sample break-even presentation. The amount of

trading profit required for the

[[Page 38154]]

net asset value per unit of participation after one year to equal the

initial selling price per unit is expressed both as a dollar amount and

as a percentage of the initial selling price per unit. The Commission

based its approval of NFA's amendment to Compliance Rule 2-13 and

accompanying Interpretive Notice on, among other things, the

understanding that NFA would amend the Interpretive Notice to clarify

that the CPO of a continuously-offered pool must include an updated

break-even analysis in the pool's Disclosure Document throughout the

pool's existence, such that each new participant would be informed of a

break-even point that was accurate as of the date of the Disclosure

Document.\44\ Revision of the break-even point is thus required for

ongoing pool offerings whenever the actual break-even point becomes

materially different from that which appears in the Disclosure

Document.

\44\ The Commission also reminded NFA that in explaining and

enforcing member compliance with NFA break-even analysis

requirements the fee and expense categories in the Interpretive

Notice to Compliance Rule 2-13(b) should not be considered

exhaustive or exclusive, and that NFA should ensure that CPOs do not

use that listing to avoid including a cost in the pool's break-even

analysis. With respect to interest income, the Commission stated its

understanding that NFA would require inclusion in the break-even

analysis of a projection of a pool's expected interest income at an

assumed interest rate reflecting then current cash market

conditions, and it stated that to the extent that a person other

than a pool participant receives any portion of the pool's interest

income, such payment should be disclosed as a fee or expense in the

pool's break-even analysis.

H. Draw-Down and Worst Peak-to-Valley Draw-Down: Rules 4.10 (k) and (l)

Commenters noted that although the capsule performance presentation

format in proposed Rules 4.25 and 4.34 required registrants to disclose

the largest monthly draw-down and the worst continuous peak-to-valley

draw-down for the pool or account, the term ``draw-down'' was not

defined. To address this concern, the Commission is adopting as Rule

4.10(k) a definition of ``draw-down'' as ``losses experienced by a pool

or account over a specified period.'' Similarly, the Commission has

adopted Rule 4.10(l), which defines the ``worst peak-to-valley draw-

down,'' \45\ as the greatest cumulative percentage decline in month-end

net asset value due to losses sustained by a pool, account or trading

program during a period in which the initial month-end net asset value

is not equaled or exceeded by a subsequent month-end net asset value.

The worst peak-to-valley draw-down must be expressed as a percentage of

the initial month-end net asset value, together with an indication of

the months and year(s) of such decline from the initial month-end net

asset value to the lowest month-end net asset value of the draw-down.

For purposes of Rules 4.25 and 4.35, a peak-to-valley draw-down which

began prior to the beginning of the most recent five calendar years is

deemed to have occurred during such five-calendar-year period.

\45\ As discussed in paragraph B.1. of Section V below, the word

``continuous'' has been omitted from the capsule item ``worst

continuous peak-to-valley draw-down'' in proposed Rule

4.25(a)(1)(i)(G) and from the item ``worst ever continuous peak-to-

valley draw-down'' in proposed Rule 4.25(a)(1)(ii)(F).

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V. Performance Disclosures: Section-by-Section Analysis \46\

A. Introduction

As noted above, the Commission is revising and reorganizing the

CPO/CTA disclosure rules with a view towards simplification of

presentation. Rules 4.21 and 4.31 continue to require CPOs and CTAs,

respectively, to deliver a Disclosure Document.\47\ Rules 4.24 with

respect to CPOs, and 4.34 with respect to CTAs, set forth requirements

concerning disclosure of all matters other than past performance, and

Rules 4.25 for CPOs and 4.35 for CTAs set forth past performance

disclosure requirements.\48\

\46\ Tables summarizing past performance disclosure requirements

under the revised rules and demonstrating the use of the new capsule

format are set forth below at paragraph B.7. of this Section V.

\47\ Requirements with respect to the use, amendment and filing

of the Disclosure Document are now contained in new Rules 4.26 for

CPOs and 4.36 for CTAs, discussed more fully below at Section VII.

\48\ Captions have been added to the subparagraphs of Rules 4.25

(a), (b) and (c) and Rules 4.35 (a) and (b) to increase ease of

reference.

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As proposed and as adopted, past performance disclosure

requirements are being substantially condensed with the objective of

eliminating required disclosure of performance that is of secondary

relevance to the offered pool or trading program. Thus, the revised

rules provide a new ``capsule'' format for performance record

presentations that is intended to provide a simple, balanced and

succinct overview of performance. Use of the capsule format should

substantially reduce the volume of performance data presented without

sacrificing material content.

With respect to past performance in CPO Disclosure Documents, the

revised rules focus primarily upon the historical performance of the

offered pool. Where the offered pool has a three-year trading history

and meets certain contribution criteria as specified in Rule 4.25(b),

its past performance generally is the only required performance

presentation. (Rule 4.25(b)).

Where the offered pool does not have the requisite operating

history, the CPO must present performance data for the offered pool,

for the CPO (and trading manager, as applicable), and the pool's major

CTAs and investee pools. (Rules 4.25 (c)(2) through (c)(4)). A textual

discussion of relevant performance factors for non-major CTAs and

investee pools also is required. (Rule 4.25(c)(5)). Some performance

data may be presented on a composite basis. (Rule 4.25(a)(3)). All

performance data may be presented in a capsule format.

With respect to CTA Disclosure Documents, the performance of the

offered trading program is the primary focus. (Rules 4.35 (a)(1) and

(a)(2)). The performance of accounts traded pursuant to other trading

programs of the CTA may be presented in single composite, provided the

rates of return are not materially different, material differences

among the accounts included in the composite are disclosed, and the

composite presentation is not misleading. (Rule 4.35(a)(3)).

As the volume of required performance disclosures for both CPOs and

CTAs is being considerably reduced, the time period for these

disclosures is being increased from three years to five years in order

to provide investors with a better chronological perspective of the

performance records presented in the Disclo- sure Document. (Rule

4.25(a)(5) for CPOs and Rule 4.35(a)(5) for CTAs). This approach

accords with the views of the NFA Special Committee for Review of CPO/

CTA Disclosure Issues.\49\

\49\ NFA's Submission at 7.

B. Required Performance Disclosures \50\

\50\ To facilitate understanding of the new performance

requirements, paragraph B.7., infra, provides: (1) A table

summarizing the past performance requirements of Rules 4.25 and

4.35; and (2) examples of capsule performance presentation under the

rules.

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1. Required Performance Disclosures in CPO Disclosure Documents: Rule

4.25

The new summary format for presentation of past performance history

is intended to capture the most significant information concerning a

pool's performance in a reader-friendly, largely nontabular form. This

format will generally permit multiple track records to be provided on a

single page. The new format is set forth in Rule 4.25(a)(1) for pool

documents and Rule 4.35(a)(1) for CTA documents.\51\

\51\ As discussed more fully below, the Commission has

determined to permit CTA documents to present the past performance

of the offered trading program in the new capsule format.

[[Page 38155]]

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a. Capsule Performance Presentation: Rule 4.25(a)(1) \52\

\52\ Rule 4.10(k), which defines the term ``draw-down,'' and

Rule 4.25(a)(7), relating to substantiating past performance

calculations, are also discussed in this section.

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CPOs

As proposed in Rule 4.25(a)(1)(i), the capsule for pool performance

in CPO Disclosure Documents would have been required to contain the

following information: The name of the pool; a statement as to whether

the pool is privately offered pursuant to the Securities Act of 1933,

as amended (the ``Securities Act''),\53\ a multi-advisor pool or a

principal-protected pool; the date when the pool commenced trading; the

aggregate gross capital subscriptions to the pool; the pool's current

net asset value; the ``largest monthly draw-down''; the ``worst

continuous peak-to-valley draw-down''; and annual and year-to-date

rates of return, computed on a monthly compounded basis,\54\ for the

preceding five calendar years and year-to-date (or for the life of the

pool if shorter). In the case of the offered pool's capsule, monthly

rates of return would have been required for the entire performance

period.

\53\ For this purpose private offerings may be pursuant to

section 4(2) of the Securities Act of 1933, as amended, 15 U.S.C.

77d(2), or Regulation D thereunder, 17 CFR 230.501-230.508 (1994).

\54\ See Rule 4.25(a)(1)(i)(H). Annual rates of return computed

on a monthly compounded basis assume reinvestment of accrued profits

and therefore the investment base on which rates of return are

calculated is effectively adjusted by these amounts.

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Similar data would have been required in capsule presentations of

the performance of accounts in CPO Disclosure Documents. Proposed Rule

4.25(a)(1)(ii) would have called for inclusion in the capsule format

of: The name of the CTA or other person trading the account and the

name of the trading program; the date when the CTA began trading client

funds and the date of inception of trading for the trading program

being disclosed; the number of accounts in the program as of the

Disclosure Document date; the total assets under the management of the

CTA and in the trading program; the ``largest monthly draw-down'' for

the program; the ``worst ever continuous peak-to-valley draw-down'' for

the trading program; and annual and year-to-date rates of return for

the offered trading program (again, computed on a monthly compounded

basis).

CTAs

As proposed, Rule 4.34(a)(2) would have required all performance

presented in CTA Disclosure Documents, with the exception of the

performance of the offered trading program, to follow the capsule

format as specified in Rule 4.25(a)(1)(ii) (C) through (G).

Comments. Commenters expressed uniformly strong support for the

proposed new capsule format for past performance disclosure. One

commenter, however, recommended that the revised rules expressly permit

a CPO to continue to present performance in the multi-column tabular

format required by former Rule 4.21(a)(4). Many commenters requested

that the Commission define the term ``draw-down,'' as used in the

proposed capsule format. Commenters also noted that use of the word

``continuous'' in the capsule item ``worst continuous peak-to-valley

draw-down'' could be read to mean that any intermediate upward movement

terminates the draw-down, thus permitting a small ``uptick'' to

disguise the true magnitude of a long draw-down, since the uptick would

break the continuity but not the decline in asset value. Suggested

alternatives were ``worst absolute peak-to-valley draw-down'' and

``worst peak-to-valley period.'' One commenter sought confirmation that

the proposed rule would require disclosure of the number of successive

months during which net asset value failed to exceed the pool's prior

high water mark and the total percentage decline over that period.

Numerous commenters criticized the proposed requirement that

monthly rates of return be presented for the offered pool over the

entire five-year performance period (or for the life of the offered

pool if less than five years), claiming that such data would detract

from the simplicity and clarity of the capsule format. One commenter

contended that monthly rates of return are not relevant to a medium to

long-term investment such as managed futures. Various alternative

indicators of volatility were proposed in lieu of monthly rates of

return, including the pool's standard deviation over its life, the best

and worst monthly and annual returns, and the number of profitable and

losing months. One commenter recommended that the capsule also include

such information as largest monthly increase and greatest valley-to-

peak increase in order to provide a balanced presentation. A number of

commenters urged the Commission to resolve the issue of the use of

notional funds and nominal account sizes in performance

presentations.\55\

\55\ As noted above, the Commission is reviewing the subject of

``notional funds'' performance data with the benefit of industry,

end-user, regulatory and academic input provided at the Commission's

April 25, 1995, roundtable discussion and other available data.

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The Commission requested comment as to whether past performance

presentations would provide more meaningful information if they were

required to include rates of return on a risk-adjusted basis, that is,

reduced by the relevant Treasury Bill rate or comparable interest

figure, or to break out trading results from passive interest income.

The only commenter specifically addressing this request expressed the

view that risk-adjusted rates of return would not make performance

presentations more meaningful and contended that indexing performance

based upon another form of investment implied that participation in a

commodity pool was somehow comparable to such other investment.

Technical Changes to Capsule

The Commission is adopting the capsule format for performance

presentations in pool Disclosure Documents, with certain technical

modifications as noted below. In adopting the capsule performance

format, the Commission stresses that this summary format is designed

for purposes of presentation in Disclosure Documents only. CPOs and

CTAs must continue to compute performance on the same basis as under

the former rules \56\ and to maintain records substantiating such

computations in accordance with Rule 1.31.\57\ The Commission is not

adopting at this time a requirement that registrants present past

performance on a risk-adjusted basis.

\56\ Although only the amounts specified in Rules 4.25(a) (1)

and (2), and Rules 4.35(a) (1) and (2) need be set forth in the

Disclosure Document, the same performance calculations as previsouly

required must be made, as specified in Rule 4.25(a)(7) for CPOs and

Rule 4.35(a)(6) for CTAs, as such rules may be interpreted by the

Commission. The corresponding former rules are former Rule

4.21(a)(4)(ii) and former Rule 4.31(a)(3)(ii), respectively.

\57\ Among other things, Rule 1.31 requires all books and

records to be maintained for a period of five years and to be

available for inspection by any representatives of the Commission or

the U.S. Department of Justice. CTAs also are subject to those

requirements.

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Draw-Down Information

The required draw-down information, which is based upon activity

occurring for the most recent five calendar years and year-to-date, is

intended to inform prospective participants of the nature of the

volatility actually experienced by the pool by demonstrating the

significant one-month and sustained declines to which the commodity

pool

[[Page 38156]]

has actually been subject. To ensure that the worst long-term draw-down

is properly represented, Rules 4.25(a) and 4.35(a), as adopted, require

the capsule to include the ``worst peak-to-valley draw-down,''

eliminating the qualification ``continuous.'' \58\

\58\ The word ``continuous'' is eliminated from Rules 4.25(a)(1)

(i)(G) and (ii)(F), and the extraneous word ``ever'' is eliminated

from Rule 4.25(a)(1)(ii)(F).

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The Commission also is adopting definitions of the terms ``draw-

down'' and ``worst peak-to-valley draw-down.'' Rule 4.10(k) provides

that ``draw-down'' means losses experienced by a pool or account over a

specified time period. Thus, a draw-down is a decline in net asset

value due to reasons other than redemptions or withdrawals. To assist

readers who may not be familiar with industry terminology, the

Commission has also added a requirement that the capsule format

include, in a footnote or otherwise, a definition of the term ``draw-

down'' that is consistent with the definition set forth in Rule

4.10(k). Rule 4.10(l) defines ``worst peak-to-valley draw-down'' as the

greatest cumulative percentage decline in month-end net asset value due

to losses sustained by a pool, account or trading program during any

period in which the initial month-end net asset value is not equaled or

exceeded by a subsequent month-end net asset value. The rule specifies

that the worst peak-to-valley draw-down must be expressed as a

percentage of the initial month-end net asset value, together with an

indication of the months and year(s) of such decline from the initial

month-end net asset value to the lowest month-end net asset value of

such decline. For purposes of the revised rules, a peak-to-valley draw-

down which began prior to the beginning of the most recent five

calendar years is deemed to have occurred during such five-calendar-

year period.

Both monthly and peak-to-valley draw-down amounts are to be

expressed as a percentage of the net asset value at the beginning of

the specified period. The largest monthly draw-down indicates the

largest net asset loss experienced by the pool in any calendar month,

and the month and year in which that loss occurred. The worst peak-to-

valley draw-down indicates the largest calendar month-to-calendar month

net asset loss experienced by the pool during any period and the months

and year in which it occurred. Dating the monthly and peak-to-valley

draw-downs permits participants to assess whether the losses were

connected to market conditions by comparing the draw-downs of several

pools. As explained in the Proposing Release,\59\ a peak-to-valley

draw-down of 4 to 8-91/25% would indicate that the peak-to-valley

lasted from April to August of 1991 and resulted in a twenty-five

percent draw-down of the pool's net asset value.

\59\ 59 FR 25351, 25356.

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Monthly Rates of Return

The Commission has determined to modify the proposal with respect

to monthly rates of return for the offered pool to permit flexibility

as to the form of presentation. As adopted, Rule 4.25(a)(2) provides

that the capsule for the offered pool must contain monthly rates of

return for the five most recent calendar years and year-to-date (or the

pool's life, if shorter) presented either in tabular form or in a bar

graph. If a bar chart is used, the bar chart must clearly indicate

monthly rates of return and must also prominently indicate annual rates

of return. Rule 4.25(a)(2)(iv) requires that the CPO make available

upon request to prospective and existing participants the supporting

data necessary to calculate monthly rates of return for the offered

pool as specified in Rule 4.25(a)(1).

The Commission notes that registrants may present performance

information in the multi-column format specified by former Rule

4.21(a)(4) in addition to the capsule format specified by Rule

4.25(a)(1), provided that any performance presented in the superseded

format is treated as supplemental information and is placed following

all of the required performance disclosures in the Disclosure

Document.\60\

\60\ This statement also applies to CTAs. See Rule 4.24(v) for

CPOs and Rule 4.34(n) for CTAs, concerning supplemental disclosures,

discussed in paragraph C.1. of this Section V.

Registrants who offer notional programs may disclose monthly rates

of return in the capsule disclosure for CTA programs using the fully-

funded subset described in Advisory 93-13.\61\ Commission staff will

provide guidance concerning supplemental data to accompany the capsule

disclosure to reflect the range of levels of partial funding and the

generic disclosures discussed in Advisory 93-13.

\61\ CFTC Advisory 93-13, (Current Transfer Binder) Comm. Fut.

L. Rep. (CCH) para. 25,554 (February 12, 1993). Advisory 93-13

requires that CTAs who manage or offer to manage partially-funded

(``notionally'' funded) accounts present both actual and nominal

funds under management and give certain disclosures in connection

with partially-funded accounts. The Advisory also provides a method

for presenting rates of return for a trading program in a single

table on the basis of a ``fully funded subset'' of accounts within

that trading program.

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b. Pools With Three or More Years Operating History That Meet

Contribution Criteria: Rule 4.25(b) \62\

\62\ Former Rule 4.21(a)(4) required disclosure of the

performance record of the offered pool. If the offered pool had less

than a twelve-month performance history, the performance of the CPO

and of each of its principals was also required to be disclosed.

Former Rule 4.21(a)(5) also required disclosure of the past

performance of all other accounts directed by the pool's CTA and

each of its principals, regardless of the duration of the pool's

operating history.

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As proposed, Rule 4.25(b) would have limited required performance

disclosures in pool Disclosure Documents to the offered pool's

performance if: (1) The pool had traded commodity interests for three

years or more, (2) no fewer than fifteen pool participants were

unaffiliated with the CPO, and (3) no more than ten percent of the

pool's assets were contributed by the CPO. As stated in the Proposing

Release, the Commission believes that, generally, ``where a pool has an

extensive operational history, presentation of the pool's own past

performance record should fulfill the objectives of past performance

disclosure.'' \63\ If, however, the pool's past performance record was

accrued under conditions that differed materially from those which will

obtain prospectively, the pool's historical performance record alone

may not be sufficient. For example, if the pool's past performance

record encompasses periods when the pool was essentially a proprietary

trading vehicle investing a relatively small amount of funds

contributed by third party sources, the performance record generated

may have little or no relevance to a publicly offered pool.\64\

Accordingly, to assure that the three-year performance history would

not represent the performance of a significantly dissimilar trading

vehicle, the Commission proposed to limit past performance disclosure

to the past performance of only the offered pool where, and only where,

the pool

[[Page 38157]]

had a three-year trading history with at least fifteen unaffiliated

participants and no more than ten percent participation by the CPO.

\63\ 59 FR 25351, 25356.

\64\ See Elton, Gruber and Rentzler, New Public Offerings.

Information and Investor Rationality: The Case of Publicly Offered

Funds, 62 J. Bus. 1 (1988); and Edwards and Ma, Commodity Pool

Performance: Is the Information Contained in Pool Prospectuses

Useful?, Working Paper Series No. 16, Center for the Study of

Futures Markets, Col. Bus. Sch. (January 1988). See also, 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);

and companion release of the Securities and Exchange Commission,

Statement of the Commission Regarding Disclosure by Issuers of

Interest in Publicly Offered Commodity Pools, 54 FR 5600 (February

6, 1989).

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The Commission requested comment as to whether, where the offered

pool has a three-year operating history, that performance record is

generally sufficient without supplementary performance data concerning

the pool's CTAs or other pools operated by the CPO. Three of the nine

commenters who responded to the Commission's request agreed with the

proposal, stating that if a pool has a three-year history, only its own

past performance should be required. Six of the nine recommended that

the twelve-month standard of former Rule 4.21(a)(4), which related to

the presentation of other pools operated by the CPO, should be used to

identify pools for which only the performance of the offered pool is

required.

The Commission also sought comment as to whether the offered pool's

operating history should be considered for purposes of the three-year

minimum if such history was acquired when the pool differed in some

material respect from the pool as offered, for example, in cases in

which the pool's CTA, types of interests traded or the trading program

had been significantly modified or the pool was initially privately

offered but subsequently was offered to the public. All but one of the

persons who responded to this request stated that material differences

should be disclosed but should not disqualify a pool from meeting the

three-year criteria of the rule.

Several commenters suggested elimination or modification of the

requirement that the requisite three-year operating history be obtained

when the pool had at least fifteen unaffiliated participants.

Commenters warned that pools with high minimum investments (and few

participants) would be unjustly penalized by this restriction. Several

commenters recommended that the requirement that the CPO have

contributed no more than ten percent of the pool's assets be modified

to increase the permissible level of CPO participation, e.g., to fifty

percent, and two commenters noted that this would harmonize with the

fifty percent standard in proposed Rule 4.25(a)(9) for determining

whether past performance results must be treated as proprietary trading

results for the purpose of separating such results from other past

performance information.\65\ Several commenters contended that Rule

4.25 as proposed would have the undesirable effect of discouraging CPOs

from investing in the pools they operate. Three commenters proposed

adopting either the CPO investment test or the unaffiliated participant

test.

\65\ Proposed Rule 4.25(a)(9), adopted as Rule 4.25(a)(8), is

discussed at paragraph C.2. of this Section V.

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The Commission has adopted Rule 4.25(b) with several modifications

to afford greater flexibility in its application. The requirement that

the pool have had no fewer than fifteen participants unaffiliated with

the pool operator has been eliminated and the maximum level of

contribution of assets by the CPO has been increased. As adopted, Rule

4.25(b) provides for past performance disclosure to be limited to that

of the offered pool if both of the following criteria are met: (1) The

pool has traded commodity interests for at least three years; and (2)

during the three-year (or greater) period, at least seventy-five

percent of the pool's assets were contributed by persons unaffiliated

with the CPO, the trading manager (if applicable), the pool's CTAs, or

any of their principals.

The performance of an offered pool which has the requisite three-

year operating history is required to be disclosed for five full

calendar years and year-to-date or, if the pool has less than a five-

year history, for the pool's entire operating history,\66\ in the

specified capsule format.\67\ The CPO is free to include additional

performance information, subject to the provisions relating to

supplemental disclosures.\68\

\66\ Rule 4.25(a)(5).

\67\ Rule 4.25(b). As adopted, the text of Rules 4.25(b) and

4.25(c) is being amended to clarify that where the offered pool

meets the criteria of Rule 4.25(b), the CPO is required to present

only the offered pool's performance. Where the offered pool does not

meet the Rule 4.25(b) criteria, the CPO must provide additional

performance disclosure as detailed in Rule 4.25(c).

\68\ See Rule 4.24(v).

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The Commission notes that the twelve-month standard in former Rule

4.21(a)(4) related only to disclosure of the performance of other pools

operated by the CPO and did not affect former Rule 4.21(a)(5)'s

requirement to disclose the performance of the CTAs for the pool. Under

Rule 4.25(b), if the offered pool has the requisite three-year

operating history, neither the performance of the CPO's other pools nor

the performance of the pool's CTA(s) must be presented. In view of the

elimination of all other performance data, including CTA performance

under the new disclosure framework, the Commission believes that a

three-year rather than a one-year history is the appropriate minimum.

The Commission agrees that material differences in the operation or

structure of the pool during the three years, given appropriate

disclosure, generally should not disqualify the pool from satisfying

the three-year criteria. However, registrants should exercise caution

in cases in which such differences exist, taking into account that the

requirement to disclose all material information includes past

performance disclosure and thus that where significant changes in the

offered pool might cause presentation of the offered pool's past

performance by itself to be misleading, additional performance

disclosure may be required.

The Commission believes that the different purposes of Rule

4.25(a)(8), which defines proprietary trading results and requires

appropriate placement and labelling of such results, and of Rule

4.25(b), which identifies pools for which no performance history other

than that of the offered pool is required, warrant different standards

as to the relevant amount of proprietary participation. A more

stringent limitation upon qualifying pools is appropriate for use in

Rule 4.25(b), which eliminates the necessity for certain otherwise

required disclosures, as compared to that of proposed Rule 4.25(a)(8).

Unlike Rule 4.25(b), which identifies pools for which no additional

performance data other than that of the offered pool is required, Rule

4.25(a)(8) determines the percentage at which proprietary participation

essentially renders a trading vehicle a proprietary vehicle, the

trading results for which were obtained under conditions that render

the performance data presumptively inappropriate for inclusion with

and, indeed, potentially misleading if included with, the performance

of the offered pool.

c. Pools With Less Than A Three-Year Operating History: Rule 4.25(c)

\69\

Disclosure Documents for offered pools that do not satisfy the

criteria of proposed Rule 4.25(b) would have been required under

proposed Rule 4.25(c) to include the performance records of the offered

pool, each other pool operated or account traded by the CPO (or trading

manager), the CPO's (or trading manager's) trading principals if the

CPO (or trading manager) had less than a three-year history, and the

performance of each ``major'' CTA and ``major''

[[Page 38158]]

investee pool.\70\ Disclosure of ``adverse performance'' results would

have been required to be indicated (or in the alternative, capsule

performance could have been presented) for non-major CTAs allocated at

least ten percent of the pool's initial margins and commodity option

premiums and for investee pools allocated at least ten percent of the

pool's assets.\71\

\69\ Rule 4.25(c) employs certain key terms, ``trading

manager,'' ``major commodity trading advisor,'' ``major investee

pool,'' and ``trading principal,'' which are defined in Rules

4.10(h), 4.10(i), 4.10(d)(5) and 4.10(e)(2), respectively. These

definitions are discussions in detail in Section IV, supra.

\70\ If the pool or such persons did not have a prior trading

history, indication of the lack thereof would have been required,

using legends set forth in Rule 4.25(c).

\71\ Proposed Rule 4.25(c)(3)(iii) would also have required that

adverse performance be indicated for any account directed, or pool

operated, by the CPO, and any trading principal of the CPO or

trading manager (if any), unless such person's performance was

otherwise required to be disclosed.

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Adverse performance was defined in proposed Rule 4.25(a)(8) as

``any annual return of one hundred basis points less than the ninety

day Treasury Bill rate on December 31 of the calendar year in which the

performance occurred or any termination of a pool pursuant to a loss

termination provision.''

The Commission received comments on various components of Rule

4.25(c). A number of commenters urged the Commission to eliminate the

proposed intermediate category for CTAs and investee pools \72\ for

whom adverse performance disclosure would have been required and to

adopt a two-tier system in which full performance disclosure would be

made for CTAs (and investee pools) above the threshold, and none for

CTAs (and investee pools) below the threshold. Several commenters

suggested that where a CPO makes (and is authorized to make) frequent

changes in the pool's CTAs and the size of the allocations to those

CTAs, required disclosures with respect to CTAs should be eliminated or

substantially reduced. The emphasis in such cases, according to these

commenters, should be on the CPO/trading manager's performance

operating multi-advisor pools. The Commission notes, however, that the

distinction between ``active allocation'' CPOs (or trading managers)

and other CPOs (or trading managers) does not appear to be susceptible

to a bright line test, as most if not all CPOs and trading managers

assume some responsibility for ongoing management and evaluation of

CTAs. Consequently, the relative significance of the CPO's or trading

manager's asset allocation expertise, as compared to the CTAs' trading

program and skills, varies significantly and may not provide an

objective basis for distinguishing among pools for past performance

disclosure purposes. Accordingly, given the lack of precise standards

on which to base a regulatory distinction between dynamically managed

multi-advisor pools and other types of pools, the Commission has

elected not to employ such a distinction in constructing the past

performance disclosure requirements.

\72\ The middle tier of the proposed three-tier disclosure

scheme consisted of CTAs allocated at least ten, but less than

twenty-five, percent of initial futures margin and option premiums,

and investee pools allocated at least ten, but less than twenty-

five, percent of pool assets.

As adopted, Rule 4.25(c) reflects several modifications from the

proposed rules, principally the elimination of the category of CTAs and

investee funds for which disclosure of adverse performance would have

been required. Upon consideration of the comments received, the

Commission has determined to simplify the disclosure requirements such

that all CTAs and investee funds will be either major and capsule

format presentations of their past performance required (Rule 4.25

(c)(3) and (c)(4)), or non-major and a narrative discussion of matters

relevant to their past performance required. (Rule 4.25(c)(5)). As

noted above, the definitions of ``major commodity trading advisor''

(Rule 4.10(i)) and ``major investee pool'' (Rule 4.10(d)(5)) have been

revised accordingly, such that a ten percent, rather than a twenty-five

percent allocation is the operative threshold.

With respect to pools that do not have the requisite three-year

operating history with at least seventy-five percent of the pool's

assets contributed by persons unaffiliated with the CPO, trading

manager, CTAs, or their respective principals, Rule 4.25(c) requires

presentation of the past performance records of the offered pool, each

other pool operated or account traded by the CPO (and trading manager,

if applicable), the CPO's (and trading manager's) trading principals if

the CPO (or trading manager) has less than a three-year history, and

the performance of each major CTA and major investee pool.\73\ If a CTA

or investee pool is not ``major,'' a summary description of the

performance history of such advisor or pool is required in lieu of

capsule performance data. To the extent that performance of principals

is required, the revised rules require disclosure of the past

performance of ``trading principals'' only.\74\

\73\ If the pool or such specified persons do not have a prior

trading history, the lack thereof must be indicated by legends set

forth in Rule 4.25(c), and discussed below in paragraph B.6. of this

Section V.

\74\ See Rule 4.25(c)(2), and Rule 4.10(e)(2) which defines the

term ``trading principal,'' discussed above in Section IV. Former

disclosure requirements mandated disclosures concerning all

principals.

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(i) Performance of Major Commodity Trading Advisors: Rule 4.25(c)(3)

For pools that do not have the three-year operating history

specified in Rule 4.25(b), the revised rules require capsule format

disclosure of CTA past performance only for ``major'' CTAs.

As discussed above,\75\ the term ``major commodity trading

advisor'' is defined in Rule 4.10(i) as a CTA allocated or intended to

be allocated ten percent or more of the smaller of (i) the pool's

aggregate net assets, or (ii) the aggregate value of the assets

allocated to the pool's trading advisors, as determined based upon the

agreement between the CPO and the CTA.

\75\ See paragraph A. of Section IV.

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(ii) Performance of Major Investee Pools: Rule 4.25(c)(4)

The revised rules also require disclosure of past performance of

investee pools constituting ``major investee pools,'' if the offered

pool does not meet the standard of Rule 4.25(b). As discussed

above,\76\ Rule 4.10(d)(5) defines ``major investee pool'' as an

investee pool allocated or intended to be allocated at least ten

percent of the net asset value of a pool.\77\ A commenter noted that

the term ``investee pool'' was not defined in the former rules or in

the proposed revisions. As noted above,\78\ the Commission has adopted

a definition of ``investee pool,'' set forth in Rule 4.10(d)(4), as

``any pool in which another pool or account participates or invests,

e.g., as a limited partner thereof.''

\76\ See paragraph B. of Section IV.

\77\ The term ``pool'' continues to be defined in Rule

4.10(d)(1) as ``any investment trust, syndicate or similar form of

enterprise operated for the purpose of trading commodity

interests.''

\78\ See paragraph B. of Section IV.

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(iii) CTAs and Investee Pools That Are Not ``Major'': Proposed Rules

4.25(a)(8) and 4.25(c)(3)(iii)

The Commission had proposed in Rule 4.25(c)(3)(iii) to require that

the CPO of an offered pool that does not satisfy the criteria of Rule

4.25(b) indicate any ``adverse performance'' (or, alternatively,

provide a complete past performance capsule) with respect to those CTAs

and investee pools allocated at least ten but less than twenty-five

percent of the pool's assets (initial margins and premiums in the case

of CTAs). Under proposed Rule 4.25(a)(8), ``adverse performance'' would

have included: (i) Any annual rate of return that was at least one

hundred basis points less than the ninety-day Treasury Bill rate on

December 31 of the same

[[Page 38159]]

year; or (ii) the termination of a pool pursuant to a loss termination

provision. Adverse performance would have been indicated by giving the

year of occurrence, the rate of return, the identity of the CPO or CTA

responsible, and that person's relationship to the offered pool.\79\

The Commission sought comment with respect to the proposed definition

of adverse performance, and in particular, as to whether any additional

benchmarks would be appropriate for identifying what past performance

was sufficiently ``adverse'' to warrant disclosure.

\79\ Unless their past performance was otherwise disclosed, Rule

4.25(c)(3)(iii) would also have required an indication of adverse

performance with respect to accounts (including pools) traded by the

CPO, the trading principals of the CPO (or trading manager), trading

principals of major CTAs that had no prior trading history, and the

trading principals of major investee pools that had no prior trading

history.

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Numerous commenters strongly criticized both the adverse

performance characterization and the concept of requiring specific

disclosure of performance below a selected risk-free rate. In

particular, several commenters objected to the adjective ``adverse'' as

unnecessarily pejorative. Several commenters criticized the Treasury

Bill benchmark as an inappropriate standard for a managed futures

investment, and some commenters proposed alternative triggering events,

such as a losing year, or a specified monthly or quarterly draw-down.

Commenters asserted that CPOs would generally opt for including the

full performance capsule rather than highlight negative results and,

thus, that performance presentations would not in fact be streamlined

by use of the adverse performance concept. Several commenters suggested

a simplified, two-tier allocation standard for CTA and investee pool

performance disclosure, with full disclosure for those above a

specified percentage (between ten and twenty-five percent) and no

performance disclosure for those with lesser allocations.

The Commission agrees with the proposition that material CTA or

investee pool performance should be fully disclosed, and it believes

that multiple standards can be confusing. Accordingly, the Commission

is adopting a two-tier disclosure standard for an offered pool's CTAs

and investee pools, rather than the three-level approach set forth in

the Proposing Release. Under the adopted standard, full performance

disclosure, i.e., capsule performance data, is required with respect to

CTAs and investee pools with allocations in excess of the designated

benchmark, i.e., ``major'' CTAs and investee pools. As adopted, the

revised rules omit the proposed requirement to indicate adverse

performance for CTAs and investee pools with allocations of at least

ten percent, but less than twenty five percent.\80\ Because this type

of individual performance disclosure is being eliminated for non-major

CTAs and investee pools, the Commission has determined to reduce the

percentage allocation standard for major CTAs and investee pools from

twenty-five to ten percent. As discussed more fully below, a narrative

summary description is required for CTAs and investee pools with lesser

allocations.

\80\ The requirement in proposed Rule 4.25(c)(3)(iii) to

indicate adverse performance on the part of accounts (including

pools) directed or operated by the offered pool's CPO, any trading

principal of the CPO or any trading principal of the trading manager

is also being eliminated.

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(iv) Past Performance of CTAs and Investee Pools That Are Not Major:

Rule 4.25(c)(5)

As noted above, the Commission has adopted a simplified approach to

the disclosure of past performance under which capsule performance data

would be required for CTAs and investee pools with ten percent or

greater allocations and no intermediate category of CTAs and investee

funds would exist for which ``adverse performance'' would be

disclosable. The Commission recognizes, however, that any simple

quantitative standard such as the ten percent allocation standard can

provide only a convenient point of reference to assure a minimum level

of performance disclosure, but that pools may be structured, or their

assets traded in such a manner, that use of the ten percent allocation

standard will not be sufficient to identify all potentially relevant

past performance data. Consequently, to supplement the required

performance data for major CTAs and investee pools, the Commission is

requiring in Rule 4.25(c)(5) a summary description of the performance

history of non-major CTAs and investee pools, including monthly return

parameters, i.e., highest and lowest monthly rates of return,

historical volatility information, an explanation of the degree of

leverage used in the trading of such CTA or investee pool, and an

identification of any material differences between the performance of

such advisors and pools and that of the offered pool's major trading

advisors and investee pools.

This requirement for summary performance disclosure of non-major

CTAs and investee pools reflects the fact that the trading of pool

assets may be distributed among multiple CTAs and investee funds, such

that a substantial portion of the pool's assets, all of the pool's

assets, or even a multiple of the pool's assets, may effectively be

allocated to CTAs or investee pools which are not ``major'' and about

whom performance data and other information may not generally be

presented. Nonetheless, such advisors and investee pools collectively

may determine the success or failure of the pool. It also reflects the

fact that quantitative allocation figures alone may not be adequate to

identify the extent of a particular advisor's or investee pool's impact

upon the offered pool. For example, a CTA with a five percent

allocation may have such an aggressive trading strategy that the impact

of its trading results on the overall return of the pool may be greater

than the impact of a trading advisor with an equivalent or larger

allocation who follows a less aggressive trading strategy. Under Rule

4.25(c)(5), CPOs will be able to devise individualized approaches to

conveying the historical volatility and other pertinent characteristics

of the past performance of non-major CTAs and investee pools.

(v) Updating Past Performance Information for Certain Persons: Proposed

Rules 4.22(a)(4) and 4.26(c) for CPOs \81\

\81\ Because of the differences between CPOs and CTAs, CTAs have

no corresponding requirements.

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The Commission proposed to add a new paragraph (a)(4) to Rule 4.22,

which would have required the periodic Account Statement that a CPO

must deliver to pool participants to include the names of all of the

pool's CTAs and investee funds (including investee pools), together

with the percentage of pool assets each is allocated, regardless of the

amount of pool assets so allocated.\82\ Rule 4.22(a)(4) would also have

required that the Account Statement include past performance disclosure

with respect to each new major CTA or major investee pool for whom past

performance data was not previously provided in the Disclosure

Document, i.e., CTAs and investee funds previously allocated less than

ten percent of the pool's futures margins or assets, respectively.

\82\ Rule 4.22(b) states that the Account Statement must be

distributed at least monthly in the case of pools with net assets of

more than $500,000 at the beginning of the pool's fiscal year, and

otherwise at least quarterly.

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Commenters criticized the proposed inclusion of performance

information in Account Statements as unreasonably expensive and

burdensome. Some commenters contended that Account Statements are

essentially financial statements subject to audit and should

[[Page 38160]]

not include performance information. Still others argued that Account

Statements should not be used to update or amend Disclosure Documents.

Other commenters criticized the requirement to identify all CTAs and

investee pools, while under proposed Rules 4.24 (e)(3) and (e)(4) only

those allocated ten percent or more of pool assets would be required to

be identified in the Disclosure Document.

The Commission notes that the proposed expansion of the data to be

included in Account Statements was designed largely in response to

concerns expressed by CPOs as to how to efficiently update Disclosure

Documents to include new CTAs and in response to claims that disclosure

of the names of investee funds was less onerous and more appropriate in

communications with existing pool participants than in Disclosure

Documents. Further, such CTA and investee pool information would not be

required to be certified by the pool's accountants. Thus, as proposed,

the rule would have provided a convenient mechanism for providing a

complete, current picture of the pool's CTAs and investee pools.

Nonetheless, since the commenters appeared to find the proposed

modifications of Rule 4.22 burdensome rather than helpful, the

Commission has determined not to amend Rule 4.22. Instead, the existing

updating requirements for Disclosure Documents will continue to apply,

except as noted below with respect to the periodic update requirement.

When a pool acquires a new major CTA or major investee pool, if such

event is of material significance, the CPO will be required to notify

pool participants and to provide the relevant information including

performance records, as required by Rule 4.26(c),\83\ within twenty-one

calendar days after the CPO knows or should know of this occurrence. As

was the case under the former rules, correction of Disclosure Documents

may be accomplished by way of an amended Disclosure Document, Account

Statement, a sticker on the Disclosure Document, or other similar

means.

\83\ Rule 4.26(c), discussed below at paragraph B of Section

VII, sets forth the requirements for amending pool Disclosure

Documents to reflect a material change in the document. This

requirement previously was found in former Rule 4.21(b).

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(vi) Trading Managers: Rule 4.25(c)(2)

The revised rules take into account arrangements in which a CPO

delegates authority to a trading manager to select CTAs or investee

pools to which the pool's assets will be allocated.\84\ The term

``trading manager'' is defined in new Rule 4.10(h) as any person, other

than the pool's CPO, with authority to allocate pool assets to CTAs or

investee pools.\85\ Rule 4.25(c)(2) requires trading manager

performance in addition to CPO performance if the pool has a trading

manager. In such cases, the trading manager is, in effect, a

supervisory CTA and the performance of such manager is clearly

material. As discussed supra, the requirement has been changed from an

alternate one, i.e., CPO or trading manager's performance, to include

performance of both on the basis that even where a trading manager has

been appointed, generally the CPO will continue to exercise ultimate

control over the pool's operations. However, in cases where the trading

manager has been given complete authority over the pool's trading and

the performance of the trading manager does not differ materially from

that of the pool operator, Rule 4.25(c)(2) provides that performance

data for the pool operator may be omitted.

\84\ See, e.g., Rule 4.25 (c)(2).

\85\ As the Commission noted in the Proposing Release, the

practice of retaining trading managers to select and monitor the

performance of CTAs and investee pools to which pool assets will be

committed has become commonplace. CPOs commonly seek to maximize

pool returns by allocating pool assets based on analysis of the

returns achieved by CTAs retained for the pool and investee pools in

which the pool has invested in light of their aggregate results,

market conditions, and the performance of other CTAs and investee

pools. CPOs frequently rely on trading managers to continously

review the performance of CTAs and investee pools and allocate and

reallocate pool funds. Because of the importance of the trading

manager and the fact that the trading manager is a CTA for the pool,

when a pool has a trading manager, the trading manger's performance

is generally required in addition to that of the CPO. 59 FR 25351,

25357.

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2. Required Past Performance Disclosure in CTA Disclosure Documents:

Rule 4.35

Proposed Rule 4.34(a)(1) would have required CTAs to continue to

present past performance of the offered trading program in the full

multi-columnar format required by former Rule 4.31(a)(3). Most

commenters strongly urged that CTAs be permitted to use the new capsule

format. Some argued that if the offered trading program's performance

must be presented in the multi-column format, the CTA will be forced to

produce a separate Disclosure Document for each program he offers or to

include all past performance in the multi-columnar format. One

commenter suggested permitting use of the capsule format for the CTA's

offered trading program but requiring monthly rates of return.

The Commission has determined to modify proposed Rule 4.34(a) to

provide that the past performance of the CTA's offered trading program

be presented in capsule format.\86\ The capsule will include the names

of the CTA and the trading program, the dates on which the CTA began

trading client accounts and on which accounts were first traded

pursuant to the trading program, the number of accounts traded pursuant

to the trading program, and the total assets under management by the

CTA and total assets traded pursuant to the trading program. The worst

monthly and peak-to valley draw-downs experienced by the trading

program are also required. Like the offered pool's performance in a CPO

Disclosure Document, the capsule for a CTA's offered program is

required to include monthly rates of return. The offered trading

program's monthly rates of return may be presented either in a table or

in a bar graph or chart. (Rule 4.35(a)(2) (ii) and (iii)). The offered

program's capsule must also include the number of accounts closed with

positive net performance during the most recent five calendar years and

year-to-date, as well as the number of accounts closed with negative

net performance during the same period. (Rule 4.35(a)(1)(viii)). CTAs

will be required to provide prospective and existing clients, upon

request, with the offered trading program's performance in the multi-

column format previously required. (Rule 4.35(a)(2)(iv)).

\86\ With respect to CTAs calculating rates of return on the

basis permitted by Advisory 93-13, as discussed supra, the capsule

must include rates of return for the fully-funded subset and

Commission staff will provide guidance concerning supplemental data

to accompany the capsule disclosure to reflect the range of levels

of partial funding and the generic disclosures discussed in Advisory

93-13.

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The Commission believes that with the specified additional

requirements for the offered trading program, this modification of the

proposal will result in simplified CTA Disclosure Documents, while

providing prospective clients with material information regarding

trading program volatility.

3. Time Period for Which Required Past Performance Disclosures Must Be

Made: Rules 4.25(a)(5) for CPOs and 4.35(a)(5) for CTAs \87\

\87\ Former Rules 4.21 (a)(4) and (a)(5) for CPOs and 4.31(a)(3)

for CTAs generally required past performance to be presented for a

three-year period.

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Proposed Rules 4.25(a)(7) and 4.34(a)(4) would have extended the

time period for which performance must be disclosed from three years to

five years (or the life of the pool or account, if less than five

years). As stated in the Proposing Release, the Commission believes

that requiring performance to

[[Page 38161]]

be disclosed for a period longer than three years will make the

timespan covered by performance disclosures more uniform and will

better portray the evolution of performance over time, including

positive and negative fluctuations in returns.\88\ Two commenters

supported the proposed five-year timeframe, noting that if all

registrants may use the capsule format, investors will be provided with

material information without increasing the volume of performance

disclosure. One commenter, however, claimed that extending performance

from three to five years would work against streamlining and reducing

the volume of disclosure and would not enhance investor understanding.

\88\ 59 FR 25351, 25358.

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The Commission is adopting Rules 4.25(a)(7) and 4.34(a)(4) as

proposed (proposed Rule 4.34(a)(4) has been re-numbered Rule

4.35(a)(5), however). As noted in the Proposing Release, under the new

summary format for performance disclosure, performance presentations

are substantially condensed and multiple tables in the new summary

format can be included on a single page. Consequently, adoption of a

five-year disclosure period should not entail any significant increase

in the volume of performance disclosures. The Commission believes that

the benefits of this additional disclosure outweigh any minor resulting

increase in the quantity of data disclosed.\89\

\89\ As noted above, the NFA Special Committee for the Review of

CPO/CTA Disclosure Issues suggested that the capsule include at

least five years of performance history.

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4. Composite Performance Presentations: Rules 4.25(a)(3) and (a)(4) for

CPOs and Rule 4.35(a)(3) for CTAs \90\

\90\ Former Rule 4.21(a)(4)(iv) permitted the performance of

pools operated by each person for whom performance was required to

be disclosed to be presented on a composite basis, provided that the

performance of the offered pool was separately disclosed, the CPO

described how each composite was developed, and the composite was

not misleading. Former Rule 4.31(a)(3)(iii) also permitted composite

presentation of the performance of accounts directed by the CTA and

each of its principals, provided that material differences among the

accounts and the manner in which the composite was developed were

described.

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As noted in the Proposing Release, the Commission has carefully

considered the benefits and disadvantages that may accrue from the use

of composites.\91\ Thus, as proposed and as adopted, the new rules

employ an approach designed to realize the benefits of reducing the

volume of performance data created by the use of composites while

minimizing the potential for misleading past performance presentations.

\91\ 59 FR 25351, 25359. Specifically, the Commission noted

that:

Composite presentations have the obvious advantage of reducing

the volume of past performance data presented. However, composite

presentations raise a number of regulatory concerns precisely

because they supplant individualized presentations of potentially

quite different types of pools and trading programs and may smooth

or camouflage actual rates of return. Composite results not only

fail to reflect differences among the pools and accounts whose

results are presented but also merge potentially disparate trading

results into average trading results and thus fail to reflect the

actual dispersion of returns as well as the volatility of individual

pools and accounts. Id.

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a. CPO Disclosure Documents

Proposed Rule 4.25(a)(3) would have required that past performance

data for the offered pool and for pools similar to the offered pool be

separately disclosed, on a pool-by-pool basis. (Rule 4.25(a)(3)(i)).

Pools of a different type from the offered pool could be presented in

composites with other pools of the same class, provided that such

presentations were not misleading, that the manner in which the

composite was developed was disclosed, and that the CPO was able to

justify the inclusion of pools in a composite. (Rule 4.25(a)(3)(ii)).

As proposed, Rule 4.25(a)(3)(iii) listed a non-exclusive set of five

specific class distinctions requiring separate rather than composite

presentation but recognized that additional factors might warrant

creation of additional composite categories.\92\ In addition, Rule

4.25(a)(3)(iv) would have required that material differences among the

pools for which past performance is presented must be disclosed.

\92\ The distinctions set forth in proposed Rule 4.25(a)(3)(iii)

are: Pools privately offered pursuant to Regulation D under the

Securities Act of 1933 and publicly offered pools; pools using

materially different leverages; pools using different trading

programs; pools with a guarantee feature and pools without such a

feature; and multi-advisor pools and non-multi-advisor pools. The

CPO would have discretion to use additional criteria and would be

required to do so where use of a composite would be misleading. See

Rule 4.24(w), which requires disclosure of all material information.

Numerous comments were received on proposed Rule 4.25(a)(3),

several of which urged the adoption of three categories for composite

performance presentation: guaranteed pools, non- guaranteed multi-

advisor pools and non-guaranteed single-advisor pools.\93\ Several

commenters asserted that the distinction between public and privately

offered pools can be eliminated by pro forma adjustments for cost

differences. One commenter remarked that since virtually all pools use

different trading programs, composite presentations might be precluded

altogether under the proposed rule. Other commenters contended that

some of the listed pool categories were too broadly worded. Still other

commenters criticized use of the concept of specified pool classes for

purposes of determining what pools may be combined in a single

composite or the particular categories proposed by the Commission,

suggesting either a general materiality standard for determining

whether differences among pools require separate composites or

inclusion in a single composite of all pools operated by the CPO and

structured similarly to the offered pool. Some commenters contended

that even pools similar to the offered pool should be included in one

composite, instead of separately presented.\94\ One commenter urged

that CPOs not be under an obligation to be prepared to justify the

inclusion of pools in a composite but, rather, that the CPO be

permitted to exercise reasonable discretion in this matter.

\93\ NFA's Submission had proposed the same three categories.

\94\ One commenter suggested that performance of all pools other

than the pool being offered should be presented in the second part

of a two-part Disclosure Document. The Commission will take this

comment into consideration in the course of its review of other

issues raised by the bifrucated disclosure format.

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The Commission specifically requested comment as to the costs and

benefits of a general requirement of separate rather than composite

presentations of pool performance in lieu of a qualified approach of

the nature proposed. Commenters stated that greater use of composite

presentations should be permitted, e.g., composite presentation of

performance for pools of the same class as the offered pool or

inclusion of all of a CPO's prior pools in one composite.

Rule 4.25(a)(3) has been adopted as proposed with certain

modifications. Pools with materially different rates of return may not

be included in the same composite, regardless of class. (Rule

4.25(a)(3)(ii)(B)). The Commission believes that separate presentation

of the performance of other pools of the same class as the offered pool

provides useful information to the reader since such pools should

provide the most comparable performance content and has thus retained

this requirement. However, the Commission has simplified the criteria

for determining what types of pools may be included in a composite

capsule. The Commission has determined to delete two of the

distinctions specified in proposed Rule 4.25(a)(3)(iii) (``pools using

different leverages'' and ``pools using different trading programs''),

on the ground that

[[Page 38162]]

they may be difficult to apply and thus may preclude the use of

composites in most or all cases, and otherwise to adopt Rule 4.25(a)(3)

essentially as proposed.\95\ Two pools that use different trading

programs or different degrees of leverage could therefore be included

in the same composite, provided that material differences among the

pools are disclosed and provided that such pools' rates of return are

not materially different.

\95\ The text of Rule 4.25(a)(3)(iii) is affected by the change

of the term ``limited risk pool'' to ``principal protected pool'' in

Rule 4.10(d)93) and the changed definition of ``multi-advisor pool''

in Rule 4.10(d)(2).

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The Commission is retaining two of the remaining pool categories

specified in proposed Rule 4.25(a)(3), i.e., pools privately offered

pursuant to the Securities Act \96\ and public offerings; and

principal-protected and non-principal-protected pools. With respect to

the proposed differentiation between multi-advisor pools as defined in

Rule 4.10(d)(2) and non-multi-advisor pools, the Commission is adopting

a more flexible approach pursuant to which multi-advisor pools will be

presumed to have rates of return that are materially different from

those of non-multi-advisor pools and thus may not be included in the

same composite, absent clear evidence to the contrary. The Commission

believes that this qualified approach is warranted because multi-

advisor pools will tend to have different fee structures and risk/

reward profiles than non-multi-advisor pools, yet, in part due to the

definitional complexity of the multi-advisor pool concept, this may not

be true in all cases.

\96\ See Section 4(2) of the Securities Act and Regulation D

thereunder, 17 CFR 230.501-230.508 (1994).

As adopted, Rule 4.25(a)(3) retains the proposed requirements

regarding separate and composite performance presentations for the

CPO's other pools. First, pools of the same class as the offered pool

must be presented separately, following the offered pool's performance.

Second, performance of any remaining pools must be presented less

prominently, and may be presented in composites. Third, only pools

belonging to the same class, and that do not differ materially from

each other in their rates of return, may be included in the same

composite. Finally, material differences among pools for which

performance is presented must be disclosed. The Commission reiterates

that the categories specified in Rule 4.25(a)(3)(iii) are illustrative

and not exclusive.

In deciding not to permit general compositizing of the CPO's other

pools that differ from the offered pool, the Commission notes that

while composites condense voluminous material into digestible units,

overly inclusive composites tend to flatten performance fluctuations

and thus may obscure variations in rates of return and volatility among

pools. Registrants therefore must use care in constructing composites,

and material differences between and among pools (including the

distinctions set forth in Rule 4.25(a)(3)(iii)) are ordinarily

indications against composite presentation.\97\

\97\ Material differences among the pools for which past

performance is disclosed must be described. (Rule 4.25(a)(3)(iv)).

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As the Commission noted in the Proposing Release, there may be

instances in which even composites of pools of the same class may be

misleading, such as where differences between or among the trading

results of the pools are so great that a composite would materially

distort their results.\98\ The express restriction against inclusion

of pools with materially different rates of return in the same

composite addresses this concern to some extent, but other types of

differences, e.g., different volatility levels, could be material. The

proviso in Rule 4.25(a)(3)(ii) that results may be presented in

composite form ``unless such presentation would be misleading'' is

intended to ensure that composites are carefully reviewed to protect

against any material distortion that may result from use of this

format.

\98\ 59 FR 25351, 25359. For example, two multi-advisor pools

with no guarantee feature using the same CTAs could show widely

disparate results unless each CTA were allocated substantially the

same portion of each pool's assets. Also, two single-advisor pools

with different CTAs may achieve very different results.

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To present capsule performance of pools in a composite, the CPO

must name all pools included in the composite, set forth the classes of

these pools (which, as discussed above, would be the same for each pool

in the composite), including at a minimum and, as applicable, the

classes specified in Rule 4.25(a)(3)(iii) and specify the date on which

each pool commenced trading. For composite capsule performance

purposes, the aggregate gross capital subscriptions are the total

subscriptions for all pools in the composite, the draw-down figures are

the worst experienced by any one of the pools included in the composite

and the rate of return is the weighted average rate of return for all

pools included.

Proposed Rule 4.25(a)(4) would have required that the past

performance of accounts be presented in capsule format on a program-by-

program basis. As adopted, Rule 4.25(a)(4) permits program-by-program

presentation unless such a presentation would be misleading. In

addition, accounts with materially different rates of return may not be

included in the same composite, and the CPO must discuss all material

differences among accounts included in a composite.

b. CTA Disclosure Documents

Proposed Rule 4.34(a)(5) would have provided that the performance

of accounts traded pursuant to the same trading program could be

presented in the same composite, unless to do so would be misleading,

provided that the CTA describes how the composite performance

information was calculated. Under proposed Rule 4.34(a)(5), ``trading

program'' would have been defined as a trading strategy differentiated

from other trading strategies by commodity trading methodology, degree

of risk or degree of leverage. Commenters stated that ``trading

program'' was already defined in existing Rule 4.10(g) \99\ and argued

that the Commission's proposal would have conflicted with the existing

rule.

\99\ The term ``trading program'' continues to be defined in

existing Rule 4.10(g) as ``the program pursuant to which a (CTA) (1)

directs a client's commodity interest account, or (2) guides the

client's commodity interest trading by means of a sytematic program

that recommends specific transactions.''

---------------------------------------------------------------------------

In adopting Rule 4.34(a)(5), renumbered as Rule 4.35(a)(3), the

Commission has revised the text to eliminate the proposed definition of

trading program as a trading strategy differentiated from other such

strategies by trading methodology, degree of risk or degree of

leverage. Instead, Rule 4.35(a)(3), like the parallel provision for CPO

Disclosure Documents, provides that unless such a presentation would be

misleading, past performance of accounts may be presented in a

composite form on a program-by-program basis and that accounts that

differ materially with respect to rates of return may not be presented

in the same composite. In determining which accounts may be included in

a single composite, the factors set forth in the proposed rule, trading

methodology, degree of risk and degree of leverage, are ones that

should be taken into consideration. Like Rule 4.25(a)(4) for CPOs, Rule

4.35(a)(3) for CTAs contains a proviso that results may be presented in

composite form ``unless such presentation would be misleading.''

Further, CTAs are cautioned that other material differences among

accounts may make presentation in the same composite misleading. As

with

[[Page 38163]]

composite presentations of pool performance, the draw-down figures in a

composite in a CTA Disclosure Documents are the worst experienced by

any one of the accounts included in the composite.

c. Substantiating Composite Presentations

Rules 4.25(a)(7) and 4.35(a)(6) require that records be maintained

substantiating the performance data set forth in CPO and CTA Disclosure

Documents, respectively, and documenting the underlying calculations,

in accordance with Rule 1.31. Naturally, this requirement also applies

with respect to composite presentations. Although not specified in Rule

4.25(a)(3)(ii), as adopted, a CPO must be prepared to justify the

inclusion of a given pool's past performance results in a composite.

5. Order of Required Performance Disclosures: Rules 4.25(a)(2),

(a)(3)(i) and (a)(3)(ii) for CPOs and 4.35(a)(1) and (a)(2) for CTAs

\100\

\100\ The Commission's disclosure rules previously did not

specifically address the order of required performance disclosures.

---------------------------------------------------------------------------

Proposed Rule 4.25(a)(2) for CPO Disclosure Documents would have

required that the performance of the offered pool be identified as

such, presented separately, and included before any other performance

information.\101\ Thus, if presentation of past performance in addition

to that of the offered pool was required because the offered pool did

not have the requisite three-year operating history under Rule 4.25(b),

the offered pool's performance must be presented separately from, and

prior to, any such other required performance data.\102\ Under proposed

Rule 4.25(a)(3), performance data for pools of the same class as the

offered pool would be presented on a pool-by-pool, non-composite basis,

after the performance history of the offered pool. The performance

histories of pools of a different class from the offered pool would be

presented after, and less prominently than, the performance records of

pools of the same class as the offered pool. Proposed Rule

4.25(a)(1)(i)(H) specified that required performance disclosure for

pools other than the offered pool must provide annual and year-to-date

rates of return.\103\ Similarly, for CTAs, proposed Rules 4.34(a)(1)

and (a)(2) would have required that the performance of the offered

trading program be displayed first and the performance of all other

programs after that presentation.

\101\ Proposed Rule 4.25(a)(2) also required that the offered

pool's rate of return be stated in monthly increments.

\102\ As discussed above, Rule 4.25(b) provides that if the

offered pool has traded commodity interests for at least three

years, during which time at least 75% of its assets were contributed

by persons unaffiliated with its CPO, trading manager, CTAs or any

of their principals, only the offered pool's past performance must

be disclosed.

\103\ As discussed above, Rules 4.25(a)(3) and (a)(4) provide

guidance for determining whether pools or accounts may be included

in the same composite.

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The Commission is adopting the required order of performance

presentation specified in proposed Rules 4.25(a)(2), (a)(3)(i) and

(a)(3)(ii) for CPOs and in proposed Rules 4.34(a)(1) and (a)(2) for

CTAs. Registrants are reminded that disclosure of performance

information not required by Commission rules, federal or state laws or

regulations, self-regulatory agency rules or laws of non-United States

jurisdictions is subject to the rules on supplemental information,

i.e., it may not be misleading and it must follow the entire

presentation of required performance information (except that

proprietary, hypothetical, extracted, pro forma \104\ or simulated

trading results must be placed at the end of the Disclosure

Document).\105\

\104\ As discussed in Section V.C.3. infra, pro forma

adjustments to performance data are required for certain purposes

and such adjustments are not affected by the restrictions upon

placement of supplemental information.

\105\ Rules 4.24(v) for CPOs and 4.34(n) for CTAs (both

captioned ``Supplemental information''), are discussed more fully

below in Section VI.

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6. Required Performance Legends

a. Legends Relating to Lack of Trading Experience: Rules 4.25(c) for

CPOs and 4.35(b) for CTAs \106\

The proposed rules would have continued to require the inclusion

of prescribed legends in specific circumstances, alerting prospective

pool participants and discretionary account clients to the lack of

performance history on the part of specified persons. In the case of

pool Disclosure Documents, the proposed rules would have required

legends with respect to the absence of performance history, where

applicable, on the part of the pool, the CPO (or trading manager) and

its trading principals, major CTAs and major investee pools. In CTA

Documents, such legends would be required, if applicable, on the part

of the CTA and its trading principals. In the interest of

simplification and readability, the Commission proposed substantial

revisions of the legends required by the former rules, generally to

shorten them and to sharpen their focus upon the matters most pertinent

to investors.\107\

\106\ Former Rules 4.21(a)(4) and (a)(5) for CPOs and 4.31(a)(3)

for CTAs required lengthier legends. For example, former Rule

4.21(4)(i)(B) specified a statement that the Commission requires

disclosure of the performance of the offered pool and of other pools

operated by the CPO and its principals and that neither the CPO nor

its principals have any prior performance history. See 59 FR 25351,

25361 for a more complete discussion of the former requirements.

\107\ 59 FR 25351, 25361.

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The Commission received several comments favoring the proposed

shortening of the required legends. The revised legends in proposed

Rules 4.25(c) and 4.34(b) are being adopted as proposed (with Rule

4.34(b) being renumbered as Rule 4.35(b)) to provide and highlight

important information in a more concise and comprehensible manner.\108\

Prescribed legends in pool Disclosure Documents apply only where the

offered pool does not meet the trading history criteria of Rule

4.25(b).\109\ The prescribed legends have been shortened by eliminating

introductory language stating that disclosure of the referenced

information is required by the Commission. This focuses attention upon

the primary point to be conveyed, e.g., the fact that the CPO and its

principals have not previously operated any commodity pools. Thus, the

legend relating to the lack of trading history of a pool now reads:

``THIS POOL HAS NOT COMMENCED TRADING AND DOES NOT HAVE ANY PERFORMANCE

HISTORY.'' (Rule 4.25(c)(1)(ii)).\110\ Similarly, the legend relating

to the lack of experience of the CPO or trading manager and its trading

principals now reads: ``NEITHER THIS POOL OPERATOR (TRADING MANAGER, if

applicable) NOR ANY OF ITS TRADING PRINCIPALS HAS PREVIOUSLY OPERATED

ANY OTHER POOLS OR TRADED ANY OTHER ACCOUNTS.'' (Rule 4.25(c)(2)(ii)).

Similar legends are required, where applicable, with respect to major

CTAs and investee pools.

[[Page 38164]]

(Rules 4.25(c)(3)(ii) and (c)(4)(ii), respectively). The revised rules

similarly require a CTA Disclosure Document to disclose, if applicable,

the lack of experience of the CTA and its principals. If the CTA has no

prior experience, the following legend is to be included: ``THIS

TRADING ADVISOR PREVIOUSLY HAS NOT DIRECTED ANY ACCOUNTS.'' (Rule

4.35(b)(1)). The following legend is to be used for trading principals:

``NONE OF THE TRADING PRINCIPALS OF THIS TRADING ADVISOR HAS PREVIOUSLY

DIRECTED ANY ACCOUNTS.'' (Rule 4.35(b)(2)). If neither the CTA nor any

of its principals has prior trading experience, rather than displaying

two separate cautionary legends concerning the CTA and the CTA's

principals, the following single sentence is to be included: ``NEITHER

THIS TRADING ADVISOR NOR ITS TRADING PRINCIPALS HAVE PREVIOUSLY

DIRECTED ANY ACCOUNTS.'' (Rule 4.35(b)(3)).

\108\ The Commission is retaining in Rules 4.25(c) and 4.35(b)

the explanation that if any of the persons for whom a prescribed

legend must be displayed is a sole proprietorship, reference to its

trading principals need not be included.

\109\ Those criteria, as adopted, are: (1) The pool has traded

commodity interests for at least three years; and (2) during the

three-year (or greater) period, at least seventy-five percent of the

pool's assets were contributed by persons unaffiliated with the CPO,

the trading manager (if applicable), the CTA or any of their

principals.

\110\ The legend required by former Rule 4.21(a)(4)(c) read as

follows:

THE COMMODITY FUTURES TRADING COMMISSION REQUIRES A COMMODITY

POOL OPERATOR TO DISCLOSE TO PROSPECTIVE POOL PARTICIPANTS THE

ACTUAL PERFORMANCE RECORD OF THE POOL FOR WHICH THE OPERATOR IS

SOLICITING PARTICIPANTS. YOU SHOULD NOTE THAT THIS POOL HAS NOT

BEGUN TRADING AND DOES NOT HAVE ANY PERFORMANCE HISTORY.

b. Legends Relating to Predictive Value of Past Performance: Rules

4.25(a)(9) for CPOs and 4.35(a)(8) for CTAs \111\

To indicate the general lack of predictive value of past

performance information, proposed Rules 4.25(a)(10) for CPOs and

4.34(a)(7) for CTAs would have required that any past performance

information, whether required or voluntarily provided, be preceded by

the statement that ``PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE

PERFORMANCE,'' prominently displayed.\112\ Thus, if a registrant

presents both required and voluntarily provided performance information

in its Disclosure Document, the specified disclaimer must precede each

such performance presentation.

\111\ The Commission's former disclosure rules did not contain

any such legends with respect to past performance generally. Rule

4.41(b) specifies a disclaimer required to precede the presentation

of simulated or hypothetical performance results, and NFA Compliance

Rule 2-29(b)(5) requires language similar to that in proposed Rules

4.25(a)(10) and 4.34(a)(7).

\112\ As the Commission noted in its proposal, numerous studies

have shown the general lack of predictive value of past performance.

59 FR 25351, 25361 at n.42.

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One commenter strongly opposed the proposal as a ``potentially

misleading'' departure from the language of NFA Compliance Rule 2-29,

which prohibits reference to past trading profits without mentioning

that past results ``are not necessarily indicative of future results.''

\113\ Other commenters stated, similarly, that ``not necessarily

indicative'' is more accurate and balanced than ``not predictive.''

\113\ NFA Compliance Rule 2-29, which concerns communications

with the public and use of promotional materials by NFA members,

prohibits a member or associate from using promotional material

which ``includes any reference to actual past trading profits

without mentioning that past results are not necessarily indicative

of future results.'' (NFA Compliance Rule 2-29(b)(5)).

---------------------------------------------------------------------------

Although the Commission does not agree that the proposed legend was

either potentially misleading or less accurate than NFA's existing

performance disclaimer, it has determined to revise the proposed text

of this legend in the interest of establishing a single, uniform

standard. Consequently, the Commission has revised the text of the

proposed legend to conform it to the language of NFA Compliance Rule 2-

29, that is, ``Past performance is not necessarily indicative of future

results.'' \114\ However, the Commission may revisit this issue in the

context of its further consideration of past performance and risk

disclosure issues. The Commission believes that pools are likely to be

sold based on past performance claims and therefore, a formatted

disclosure requirement assures consistency and auditability. The

Commission remains convinced that past performance is not generally

predictive of future rates of return.

\114\ The Commission is adopting proposed Rules 4.25(a)(10) and

4.34(a)(7) as Rules 4.25(a)(9) and 4.35(a)(8), respectively.

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7. Summary Tables

a. Performance Disclosure Requirements

The following table summarizes the past performance requirements

set forth in Rules 4.25 and 4.35.

Summary of Required Performance Disclosures--CPO Disclosure Documents

------------------------------------------------------------------------

Category Requirement

------------------------------------------------------------------------

Offered pools with 3 years --Performance of offered pool for

history & 75% or more of assets five most recent calendar years and

from non-affiliates of CPO, year-to-date (``YTD'') (or if

trading mgr., CTAs or principals. shorter, for life of pool), with

monthly rates of return (``RORs'')

presented in bar graph or table.

Rules 4.25(b); 4.25(a)(5);

4.25(a)(2).

Offered pools that do not meet --Performance of offered pool for

three-year history and asset life of pool first, with monthly

contribution standards. RORs in table or bar chart.

Prescribed statement if pool has no

operating history. Rules 4.25(c)(1);

4.25(a)(2).

--Performance of CPO's and trading

manager's other pools and accounts

for five most recent calendar years

and YTD, with annual RORs.

Performance for pools of the same

class as the offered pool must be

presented more prominently than that

of other pools. Rule 4.25(c)(2)(i).

--If CPO or trading manager has less

than three-year history in trading

pools with 75% outside

contributions, performance of CPO's

trading principals, with annual

RORs. Prescribed statement if no

prior trading history of CPO/trading

manager or trading principals. Rules

4.25(c)(2)(i); 4.25(c)(2)(ii).

--Performance of major CTAs and

investee pools. Prescribed statement

if no prior history. Rules

4.25(c)(3), 4.25(c)(4).

--Narrative description of non-major

CTAs' and/or investee pools' past

performance, trading, investment

activities, strategies, and

experience. Rule 4.25(c)(5).

All.............................. --Required performance is to be given

for most recent five calendar years

and YTD (or, if shorter, for life of

account). Rule 4.35(a)(5).

--Performance of offered trading

program presented first, with

monthly rates of return presented in

bar graph or table. CTA must make

performance available in multi-

column format of former Rule

4.21(a)(5) upon request. Rule

4.35(a)(2).

--Performance of each other account

directed by CTA and by each of CTA's

trading principals, with annual

RORs. Rule 4.35(b).

--Performance of accounts traded

pursuant to same trading program may

be presented in composite unless

misleading. Rule 4.35(a)(3).

--Prescribed statement if no prior

trading history of CTA or trading

principals. Rule 4.35(b).

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[[Page 38165]]

b. Sample Capsule Performance Presentations

The following are examples of ``capsule'' performance presentation

under Rules 4.25 and 4.35.

Capsule Performance Examples Under Rule 4.25 Capsule Performance of the

Offered Pool

[XYZ Partners, L.P. is a privately offered, single-advisor pool that

does not have a guarantee feature. Past performance is shown for the

most recent five calendar years and year-to-date (monthly rates of

return for the most recent calendar year and year-to-date). For purposes

of this example, it is assumed that thirty percent of the assets were

provided by X, the CPO, and that the performance of other pools operated

by X is therefore required to be presented. Of the other pools operated

by X, Pool A, which is of the same class as the offered pool is

presented first (and separately). Pools B, C and D are of different

classes than that of the offered pool, and since Pools B and C belong to

the same class, the performance of B and C is presented in a composite.]

------------------------------------------------------------------------

Month

Percentage rate of -----------------------------------------------

return (computed on a Year-

compounded monthly to- 1994 1993 1992 1991 1990

basis) date

------------------------------------------------------------------------

January................. 1.12 2.43 3.50 2.56 1.54 0.69

February................ 1.34 3.11 (2.30) 1.96 (0.89) (0.82)

March................... 0.96 (0.23) 1.60 3.72 1.15 0.55

April................... 1.45 1.16 1.22 4.66 0.97 1.06

May..................... ...... 1.54 (3.62) 2.75 1.21 0.90

June.................... ...... 0.32 1.32 (16.87

) 0.51 1.12

July.................... ...... 1.28 1.15 (9.87) 0.11 1.01

August.................. ...... 1.12 1.85 (7.03) (0.14) 0.93

September............... ...... 2.09 0.87 5.61 0.56 0.99

October................. ...... 1.34 2.10 4.23 0.23 1.01

November................ ...... 1.57 0.90 3.97 1.11 1.19

December................ ...... 1.04 0.825 3.81 0.32 1.14

Year.................... 6.32 18.66 8.48 (3.60) 7.80 12.11

------------------------------------------------------------------------

Offered pool

Name of Pool: XYZ Partners, L.P.

Type of Pool: Privately offered

Inception of Trading: January 1, 1989

Aggregate Subscriptions: $1,673,000

Current Net Asset Value: $1,925,000

Worst Monthly Percentage Draw-down:* 7-92/16.54%

Worst Peak-to-Valley Draw-down: 6 to 9-92/30.52%

*``Draw-down'' means losses experienced by the pool over a specified

period.

Capsule Performance of Other Pools Operated by the Offered Pool'S CPO

--------------------------------------------------------------------------------------------------------------------------------------------------------

Current Percentage rate of return (computed on a compounded monthly

Inception Aggregate total Worst Worst peak- basis)

Name of pool Type of of subscription NAV ($ monthly to valley ------------------------------------------------------------

pool trading ($ x x percent draw-down Year-to-

1,000) 1,000) draw-down 1990 1991 1992 1993 1994 date

--------------------------------------------------------------------------------------------------------------------------------------------------------

Other pools operated by

X, different class from

This text is long and has been trimmed here. Open the source document for the complete record.