A push for electronic banking documents, with real time access for regulators, and a comprehensive review of the relationship between his agency and the National Futures Association, are among the potential remedies being offered by Commodity Futures Trading Commission Chairman Gary Gensler in response to high-profile cases of fraud in the futures market.

Gensler offered those suggestions while testifying before the Senate Committee on Agriculture, Nutrition and Forestry on July 17. The hearing, intended to focus on the implementation of the Dodd–Frank Act's Title VII reforms, took a timely detour to grill him about revelations that at least $215 million in investor funds were lost to a decades-long fraud at Iowa-based commodities brokerage Peregrine Financial Group.

Politically, the still-evolving scandal puts added pressure on Gensler and the CFTC on the heels of October's discovery that $1.6 billion in customer funds went missing prior to the bankruptcy of MF Global.

Gensler gave a measured mea culpa at Tuesday's hearing.

“Although we do not yet know the full facts of what happened in the matter, the system failed to protect the customers of Peregrine,” Gensler said. “Just like the local police cannot prevent all bank robberies, however, market regulators cannot prevent all financial fraud.  But nonetheless, we all must do better.  We must do everything within our authorities and resources to strengthen oversight programs and the protection of customer funds.”

Since the bankruptcy of MF Global, there have been numerous calls by Congressional Republicans for Gensler's resignation. The Peregrine meltdown has done little to mellow those attacks.

“During just the past few months, CFTC Chairman Gary Gensler has stood over two unique and unprecedented failures whose damage to market integrity will be hard to overcome,” U.S. Senator Jerry Moran (R-Kansas), a member of the Senate Banking Committee, said last week. “For far too long, [he] has seemingly been more preoccupied with his Dodd-Frank Act power grab, than with his core responsibilities.  On two occasions, the most basic requirement to protect the sanctity of customer accounts has been neglected and hundreds of millions of dollars have been lost.”

A recurring theme of the questioning was not just what the CFTC can do better, but whether the NFA is up to the challenge of its expanding responsibilities.

Gensler explained that Peregrine was a CFTC-registered futures commission merchant (FCM). SROs are the primary regulators (overseen by the CFTC) of FCMs, commodity pool operators, and commodity trading advisers. The NFA, a futures industry SRO, is responsible for front-line oversight and was required to conduct periodic audits of Peregrine's customer funds in segregated and secured accounts.

Based on completed Dodd-Frank reforms, the NFA will also take on additional duties for swap dealers. 

Senator Chuck Grassley (R-Iowa) said he was “astounded” that for nearly two decades “nobody checked to see where these bank statements were going, who they were going to, and whether they were real or not.”

“I find that mind-boggling that no one at NFA could discern this,” he said. “It raises the question in my mind about this whole issue of self regulation. It only works if you have really tight controls from the regulatory body over them. We've seen self regulation fail since Glass–Steagall was overturned in 1999."

Senator Amy Klobuchar (D-Minnesota) read letter from a constituent to the NFA that echoed similar concerns.

The author took issue with an NFA statement implying that failure to detect the $200 million fraud earlier shouldn't count against them, “it just matters that [they caught] it.”

“I couldn't disagree more,” the letter reads. “Your job is to prevent fraud by putting in place the tools and people to ensure that funds are as reported, that segregated balances are protected and that people making investment decisions can rely on the audits that you perform.”

“Do you think the NFA is up to the task of serving as a front line regulator here?” Klobuchar asked.

Gensler called it an “excellent question.”

“I find myself agreeing with the constituent who wrote that letter,” he said. “We need to do better. We all do."

The NFA last completed a Peregrine audit in May 2011, and was in the process of conducting another one.  Under CFTC rules, FCMs must have their annual financial statements audited by an independent CPA.  

Gensler said the CFTC reviews the SROs' work papers for “only a limited number” of FCMs each year.  Historically, it only conducts a direct review of an FCM in a “for cause” situation, when an issue or discrepancy is discovered.

To improve oversight, the CFTC last year established a new division “dedicated solely to the oversight of the SROs and intermediaries,” Gensler said. Also, a branch within the division will specifically oversee examinations. 

Last week, the Commission also approved an NFA proposal that establishes new rules with a focus on customer protection.

“We also have in front of commissioners now a series of recommendations to go further than that,” Gensler said. “I really believe that the regulators, the Chicago Mercantile Exchange, and NFA should have direct and daily electronic access to see what's in the bank accounts and custodial accounts.”

Such a system might have caught the falsified statements, forged signatures and fake bank addresses that Peregrine relied upon to maintain its fraud. Gensler said this “critical reform” will first need to be put out for public comment, although he believes it fits within the CFTC's authority.

Gensler added that the CFTC also needs to review its relationships with SROs to “make sure we are doing the right things when we examine the examiners.”

“Investors should get the same transparency into their accounts in the futures world that they have come to expect in the securities world and mutual fund area,” he said. There also “has to be a strengthening of internal controls at futures commission merchants,” in particular “separations of duties of the people that can move money from those who can count the money.”

Gensler will once again testify before the committee at an Aug. 1 hearing that will again look at what went wrong at MF Global and Peregrine.