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Bridging the Weeks by Gary DeWaal: Attempted Manipulation; Curious About Digital Assets; Whistleblowing; SARs; Obstruction

A commodity merchandising firm was fined US $6.55 million by the Commodity Futures Trading Commission and the Chicago Board of Trade combined for attempting to manipulate the prices of wheat futures contracts. However, its transaction activity may have constituted ordinary commercial conduct. But that was not sufficient to avoid the regulators’ wrath. Separately, the Financial Industry Regulatory Authority asked member firms voluntarily to disclose details regarding their, their associated persons’, and their affiliates’ activities related to digital assets. But the nature of activities FINRA is curious about is very broad, and includes such persons’ futures activities. As a result, the following matters are covered in this week’s edition of Bridging the Week:

  • Commodity Merchandising Firm Agrees to Pay US $6.55 Million in Fines to CFTC and CBOT for Attempted Manipulation of Wheat Futures (includes Legal Weeds); 

  • FINRA Asks Members to Volunteer Information Regarding Crypto-Asset Activity (includes Compliance Weeds);

  • Whistleblower Receives US $30 Million Payment From CFTC – Largest Award to Date; SEC Proposed Updates to Its Whistleblower Rules (includes Culture and Ethics);

  • SEC Resolves a Sundry of Enforcement Actions Alleging Failure to File SARs, Failure to Supervise Brokers Who Defrauded Customers, and Inappropriate Commission Splitting (includes Compliance Weeds);

  • Commodity Pool Operator Charged With Fraud in CFTC and Criminal Actions; Also Charged Criminally With Attempting to Obstruct CFTC Investigation (includes Legal Weeds); and more.

Video Version:

Briefly:

  • Commodity Merchandising Firm Agrees to Pay US $6.55 Million in Fines to CFTC and CBOT for Attempted Manipulation of Wheat Futures: Lansing Trade Group, LLC agreed to pay US $6.55 million in aggregate fines to the Commodity Futures Trading Commission and the Chicago Board of Trade for the alleged attempted manipulation of the prices of certain wheat futures and options contracts from March 3 to 11, 2015. The CFTC also charged that Lansing aided and abetted an attempted manipulation of the cash price of yellow corn on February 19, 2015. 

According to both the CFTC and CBOT, Lansing engaged in its attempted manipulation of wheat futures prices to benefit its own futures and options positions. The CFTC said that Lansing assisted in attempting to manipulate the price of corn as a favor to an unnamed third-party grain company.

Lansing is a commodity merchandising firm headquartered in Overland Park, Kansas, that trades grain and oilseeds, feed ingredients and energy products. (Click here for background on Lansing.)

The CFTC claimed that, after the close of wheat futures trading on March 3, Lansing traders learned that a market participant intended to register and tender for delivery against CBOT wheat futures a large number of shipping certificates for wheat, and they used this information to develop their manipulative strategy.

Later on March 3, the unnamed market participant registered and tendered the 250 wheat shipping certificates as expected. Because the relevant wheat was below milling grade and subject to a 20 cent per bushel discount compared to ordinary wheat, the market perceived a lack of demand, noted the CFTC. Afterward, wheat futures prices began to decline.

Subsequently, the Lansing traders increased their long wheat futures spread positions and their wheat call option positions, and purchased all 250 of the newly available wheat shipping certificates (at the time, Lansing already owned 134 shipping certificates). Lansing anticipated that wheat futures prices would rise and the value of its open positions would increase when it later canceled its wheat certificates for load-out because it would suggest there was demand for such certificates. To help effectuate their plans, Lansing traders contacted multiple market participants and a daily cash wheat newsletter to advise them of the firm's intention to cancel its wheat certificates for load-out; the newsletter agreed to publicize Lansing's intent. The firm canceled all its wheat certificates from March 6 to 11, according to the CBOT.

Neither the CFTC nor the CBOT settlement orders with Lansing indicated whether the firm’s attempted manipulation achieved its objective to raise prices.

Separately, on February 18, a Lansing trader allegedly bought and sold spot corn at below market prices at the request of an unnamed commodity broker on behalf of an unnamed grain company, charged the CFTC. The Lansing trader was told by the broker, said the CFTC, that the grain company wanted this reduced price “out there” in the market and that the transaction would be used by the grain company to spread false or misleading information about the direction of the cash market price for corn.

As part of its settlement with the CFTC, Lansing agreed to enhance its internal controls and procedures to help ensure compliance with relevant prohibitions against engaging in manipulative conduct. Lansing agreed to pay as a fine US $3.4 million to the CFTC and US $3.15 million to the CBOT to settle these matters.

Unrelatedly, Lansing also agreed to pay a fine of US $25,000 to resolve charges brought by the CBOT that, on September 21, 2016, it engaged in exchange of futures for physical transaction involving soybeans without the exchange of a related cash position demonstrating transfer of ownership. As a result, said the CBOT, the EFP was non-bona fide. CBOT claimed the purpose of the transaction was to transfer positions between two Lansing accounts.

Legal Weeds: The CBOT fine against Lansing was the largest fine issued by the CBOT since its merger with the Chicago Mercantile Exchange in July 2007. Likely, this was because staff and members of the relevant business conduct committee regard manipulative conduct as one of the most serious violations.

Although it is challenging to follow the facts of this matter from reviewing the cryptic language of the CFTC and CBOT orders, it appears that Lansing’s conduct was not atypical of its ordinary operations. According to the CFTC in a buried footnote,

As a wheat merchant, Lansing’s course of business includes the purchases, cancellations, and load-out of wheat for delivery. Irrespective of whether the cancellation and load-out of the [below milling grade] wheat was a legal, open-market transaction, Lansing nonetheless engaged in manipulation because it had the improper intent to move the prices of futures and options contracts being traded on the CBOT in Lansing’s favor through this conduct.

In general, to prove traditional manipulation, the CFTC must show that a person has the ability to influence the relevant prices, that the person specifically intended to create or effect a market price or prices that do not reflect legitimate forces of supply and demand, that an artificial price or prices existed, and that the person caused the artificial price or prices. To prove attempted manipulation, the CFTC only has to evidence an intent to affect marketprice and an overt act in furtherance of that intent. (Click here for a discussion of the elements to show traditional manipulation in the CFTC’s discussion of Commodity Exchange Act § 6(c)(3) and CFTC Rule 180.2 in the Federal Register Release Related to the Commission’s 2011 adoption of CFTC Rules 180.1 and 180.2. Click here for a discussion of attempted manipulation in In re Hohenberg Bros. Co. (CFTC 1977).)

However, as both the Commission and at least one federal court have noted previously, legitimate transactions + improper motive or intent = unlawful commodities manipulation. (Click here to access the CFTC’s view in In the Matter of Indian Farm Bureau Cooperative (CFTC 1982), and here for the opinion of a federal district court judge in New York in In re Amaranth Natural Gas Commodities Litigation (2008).)

In this matter, the CFTC also charged attempted manipulation under the Dodd-Frank Wall Street Reform and Consumer Protection Act provision that prohibits the use of a manipulative or deceptive device or contrivance. (Clickhere to access Commodity Exchange Act §6(c)(1), 7 U.S.C. §9(1); click here to see also CFTC Rule 180.1.)

How did the CFTC attempt to prove its case? Through recorded communications between Lansing Traders which showed “they had the understanding that the market did not expect the Wheat Certificates to be cancelled for load-out and that by doing so, they would lead market participants to believe there was a demand for the [below milling grade] wheat, which, in turn, would lead to an increase in the value of Lansing’s positions.”

  • FINRA Asks Members to Volunteer Information Regarding Crypto-Asset Activity: The Financial Industry Regulatory Authority asked all member firms voluntarily to notify their FINRA Regulatory Coordinator in writing if they, any of their associated persons, or any of their affiliates currently engage or intend to engage in any activities related to digital assets, including cryptocurrencies and other virtual coins or tokens, even if such assets are not securities. FINRA encourages all member firms to provide such information “promptly” and to update their Regulatory Coordinator through July 31, 2019, if they, their APs or their affiliates begin or intend to begin engaging in any new activity related to digital assets that was not previously disclosed.

The scope of activities FINRA seeks information regarding is quite broad. Among the activities covered by FINRA’s request are:

  • purchases, sales or executions of transactions involving digital assets, including derivatives or in a pooled fund investing in such assets;

  • creation, management of, or providing advisory services for, a pooled fund;

  • creation or management of a platform for the secondary trading of digital assets, or to provide or facilitate clearance and settlement services for cryptocurrencies and other virtual coins or tokens;

  • accepting cryptocurrencies from customers or mining cryptocurrencies;

  • recommending, soliciting or accepting orders for cryptocurrencies or other virtual coins or tokens; and

  • recording cryptocurrencies and other virtual coins and tokens using any type of blockchain technology.

FINRA does not seek information from member firms that previously was provided to their FINRA Regulatory Coordinator in response to a direct request, through a Continuing Membership Application, or through their 2018 Risk Control Assessment Survey (click here for background regarding RASs). FINRA also reminded member firms that they must file a CMA and receive FINRA approval whenever they seek to materially expand their business operations or activities (click here for background regarding CMAs).

In other unrelated developments regarding digital assets:

  • Centra Tech Private Litigation: In a class action lawsuit against Centra Tech, Inc. and three individual defendants initially filed in a federal court in Florida in December 2017, a magistrate issued a report concluding that the digital tokens issued as part of the initial coin offering – Centra Tokens – were securities. The magistrate determined that all three prongs of the Howey test were met by the Centra Tokens: (1) investors invested money (even if not necessarily in fiat currency but in the form of Bitcoin or Ether); (2) in a common enterprise (e.g., the fortunes of individual investors were “directly or indirectly tied to the failure or success of the products the Defendants purported to develop”); (3) with the expectation of profits solely through the efforts of others. (Click here to access the W.J. Howey1946 Supreme Court decision.) According to the magistrate, “the success of [Centra Tokens and the Centra Tech projects] was entirely dependent on the efforts and actions of the Defendants.” Earlier this year, the Securities and Exchange Commission brought civil actions against Sohrab Sharma, Robert Farkas and Raymond Trapani in connection with Centra Tech’s ICO, while the US Attorney’s Office in New York filed criminal charges against the same individuals. (Click here for background in the article “SEC Seeks to Halt Another ICO” in the April 8, 2018 edition of Bridging the Week.) A magistrate’s report is not considered precedent in judicial proceedings. (Click here for a copy of the magistrate’s report.)

  • Malta Adopts Laws to Promote Distributed Ledger Technology: Malta adopted three laws to provide a legal framework regarding distributed ledger technology. One law establishes the Malta Digital Innovation Authority whose function is to support technology innovation, including distributed or decentralized technology. The MDIA will be the grantor of innovative technology licenses. Another law, termed the “Innovative Technological Arrangement and Services Act,” generally governs the recognition of innovative technology arrangements and services such as software which may be used to design and implement distributed ledger technologies as well as smart contracts and related applications, including decentralized autonomous organizations. The third law, named the “Virtual Financial Asset Act,” establishes a framework for initial coin offerings. It requires companies involved with ICOs to issue detailed white papers including financial information. The VFA also deals with cryptocurrency exchanges and wallet providers. The new Malta laws generally prohibit insider dealing, market manipulation, and making misstatements in ICO white papers either willfully or in consequence of gross negligence. (Click here for a copy of the MDIA, here for a copy of the ITAS, and here for the VFA.)

  • IRS Looking for Virtual Currency Cheats: The US Internal Revenue Service indicated that its Large Business and International Division would be looking for taxpayers with unreported virtual currency transactions. According to the IRS, virtual currency is property for federal tax purposes. Taxpayers must report gains in connection with virtual currency transactions and are “urged” to correct returns “as soon as practical” if they previously failed to report required transactions. (Click here for details; click here for additional background regarding the IRS's position regarding the tax treatment of income from virtual currency transactions in the article, "The US Taxman Cometh – for Cryptocurrency Income" in the March 25, 2018 edition of Bridging the Week.)

Compliance Weeds: Under FINRA rules, no registered person may be directly or indirectly employed in any other capacity in a business activity outside the scope of his or her relationship with his or her member firm unless he or she has given prior written notice to the member. (Click here to access FINRA Rule 3270.) Additionally, a person associated with members must also provide advance written notice to his or her member employer if he or she may engage in a securities transaction outside the regular course or scope of his or her employment, including new offerings of securities which are not registered with the SEC, subject to various exceptions and conditions. (Click here to access FINRA Rule 3280.)

Earlier this year, Arthur Meunier a/k/a Arthur Breitman agreed to be suspended for two years from association with any FINRA-regulated broker-dealer to settle FINRA charges that, from February 2014 to April 2016, he participated in the development of Tezos, a blockchain technology project, without notifying the broker-dealer he was then employed by of such activity, as required by FINRA rules. (Click here for background in the article “FINRA Fines a Tezos Co-Founder” in the April 22, 2o18 edition of Bridging the Week.)

FINRA implied in a footnote to its voluntary request for information related to digital asset activity that it is not imposing a new obligation on member firms proactively to seek out information related to its associated persons’ outside digital asset activities. Instead, it is solely “interested in learning from firms how they currently handle notifications regarding participation in activities related to digital assets, such as cryptocurrencies and other virtual coins and tokens.” However, FINRA has previously noted that firms that maintained "effective programs" regarding their relevant APs' outside business activities and private securities transactions "typically implemented proactive compliance efforts" to remind such persons of their obligations, including through frequent training and a requirement to complete open-ended questionnaires. (Click here to access a December 2017 FINRA Examination Findings regarding this subject.)

Unlike in the futures industry, the term “associated person” under FINRA rules embraces persons who are not solely registered with the SEC. The term includes, among others, any employee, except persons whose functions are solely clerical or ministerial. (Click here to access FINRA Rule 1011 and the definition of “associated person.”)

  • Whistleblower Receives US $30 Million Payment From CFTC – Largest Award to Date; SEC Proposed Updates to Its Whistleblower Rules: The Commodity Futures Trading Commission awarded its largest whistleblowing award to date – US $30 million – for providing key information that led to a successful enforcement action. According to the website of The Siedle Law Offices (click here to access), the CFTC’s award was given to a person who provided information to the CFTC and the Securities and Exchange Commission that led to the agencies’ filing and settling of enforcement actions in 2015 naming JPMorgan Chase Bank, N.A. for non-disclosed conflicts of interest. The enforcement actions were brought over JPMorgan’s alleged failure to notify clients of the bank’s wealth management business of its preference – because of economic incentives – to invest client funds in certain commodity pools, hedge funds and mutual funds managed and operated by an affiliate, or in similar third-party-managed vehicles that provided payments to the bank. JP Morgan resolved both actions by agreeing to pay an aggregate fine of US $167.5 million, disgorgement of US $127.5 million and almost US $12 million in prejudgment interest. (Click here for details in the article “Bank Sanctioned US $307 Million by CFTC and SEC for Alleged Conflicts of Interest in Investing Clients’ Funds” in the December 20, 2015 edition of Bridging the Week.)

Separately, the Securities and Exchange Commission proposed numerous amendments to its whistleblower rules. Among other things, the SEC proposed to authorize awards to whistleblowers based on deferred prosecution agreements and non-prosecution agreements entered into by the United States Department of Justice or a state attorney general in a criminal case, or a settlement agreement entered into by the SEC other than in a judicial or administrative proceeding to address violations of securities laws; to potentially round up awards that are less than US $2 million to US $2 million (subject to the 30 percent statutory cap of total monetary sanctions collected) in order to “sufficiently [incentivize] future whistleblowers;” and to potentially reduce very large awards where total monetary sanctions are at least US $100 million (subject to the 10 percent minimum statutory level and never below US $30 million) “to make sure that the Commission is a responsible steward of the public trust while continuing to provide strong whistleblower incentives.”

Culture and Ethics: Companies should encourage internal whistleblowing to help identify potential wrongdoing early. This requires the adoption of robust policies and procedures, and potentially, a reward program of some kind. However, such policies and procedures must be carefully drafted to avoid any suggestion that external whistleblowing is discouraged.

During the last years when I served as Group General Counsel of Fimat and Newedge, I proactively encouraged my own worldwide staff at every year-end to report to me in writing – even anonymously – anything that kept them awake at night. I found this an excellent device to gain an early warning of potential issues within our company.

It is in a company’s best interest that employees feel comfortable reporting all potential wrongdoing without fear of retaliation. If employees do not feel that level of comfort, it is more likely than not they will report incidents of wrongdoing in the first instance to government agencies where they can potentially be lucratively rewarded for their information.

How firms sanction senior level wrongdoing also sends a critical message to employees. It is important for firms to apply the same standards and commensurable penalties in addressing wrongdoing by the most senior level officers as by the most junior staff.

  • SEC Resolves a Sundry of Enforcement Actions Alleging Failure to File SARs; Failure to Supervise Brokers Who Defrauded Customers; and Inappropriate Commission Splitting: Charles Schwab & Co., Inc. agreed to pay a fine of US $2.8 million to the Securities and Exchange Commission to resolve charges that, in 2012 and 2013, it failed to file suspicious activity reports in connection with suspicious transactions engaged in by 37 independent investment advisors it terminated for failing to comply with its internal policies and which it believed exposed Schwab and its customers to risk. Among other circumstances, Schwab failed to file SARs in circumstances where it suspected or should have suspected that advisers were charging excessive advisory fees, had their state registrations lapse or were cherry-picking profitable trades for the advisers’ own accounts and giving customers losing transactions.

Separately, the SEC filed and settled enforcement actions against Alexander Capital L.P, a broker-dealer, and two of its managers – Philip Noto II and Barry Eisenberg – for failing to adequately supervise three registered representatives who purportedly engaged in unauthorized trading on behalf of customers, churned customers’ accounts and made unsuitable recommendations from 2012 to 2014. These three brokers were charged for these offenses by the SEC in September 2017. (Click here to access the relevant SEC complaint against William Gennity and Rocco Roveccio. And here for the SEC complaint against Laurence Torres.) The SEC claimed that Alexander Capital failed to have adequate policies and procedures to prevent and detect the brokers’ wrongdoing, and that Mr. Noto and Mr. Eisenberg failed to act on red flags indicating excessive trading by the brokers that were under their supervision. To resolve these matters, Alexander Capital agreed to pay a fine of US $193,775 and have an independent consultant review its policies and procedures, as well as to disgorge profits of US $193,775 and pay interest of US $23,437. Mr. Noto agreed to a permanent supervisory bar and a US $20,000 fine, while Mr. Eisenberg consented to a five-year supervisory bar and a US $15,000 penalty.

Finally, Cantor Fitzgerald & Co. settled SEC charges that, for more than 10 years, Joseph Ludovico and another Cantor Fitzgerald broker paid a portion of their commissions by check to Adam Mattessich, the firm’s former global co-head of equities. This practice, said the SEC, began in approximately 2002 after Mr. Mattessich requested that the firm pay him commissions on accounts he serviced; Mr. Mattessich’s supervisor denied this request, and required Mr. Mattessich to transfer the accounts to junior brokers for coverage. Instead, Mr. Mattessich transferred the accounts to Mr. Ludovico and the other broker who began remitting commission checks to Mr. Mattessich in violation of firm policy. As a result, charged the SEC, Cantor Fitzgerald maintained improper books and records related to broker compensation. Cantor Fitzgerald resolved the SEC’s charges by agreeing to pay a fine of US $1.25 million. Relatedly, the SEC filed civil charges against Mr. Mattessich and Mr. Ludovico in a US federal court in New York for aiding and abetting Cantor Fitzgerald’s violations.

Compliance Weeds: Applicable law and rules of the Financial Crimes Enforcement Network of the US Department of Treasury require broker-dealers and other covered financial institutions (banks, Commodity Futures Trading Commission-registered futures commission merchants and introducing brokers and SEC-registered mutual funds) to file a SAR with FinCEN in response to transactions of at least US $5,000 which a covered entity “knows, suspects, or has reason to suspect” involve funds derived from illegal activity, have no business or apparent lawful purpose, are designed to evade applicable law, or utilize the institution for criminal activity.

In July 2017, Electronic Transaction Clearing, Inc., a registered broker-dealer, agreed to settle charges brought by the Financial Industry Regulatory Authority that it failed to consider whether to file suspicious activity reports, as required, in response to red flags of possible suspicious conduct as well as for other violations. According to FINRA, ETC did not file such reports even after it restricted trading by certain of its customers after 30 instances where the firm identified problematic conduct, including prearranged trades or trading without an apparent economic reason. ETC agreed to pay a fine of US $250,000 to resolve FINRA’s charges. (Click here for background regarding FINRA’s charges in the article “Clearing Firm’s Failure to File Suspicious Activity Reports in Response to Red Flags Charged as Violation of FINRA Requirements” in the March 26, 2017 edition of Bridging the Week.)

Covered financial institutions should continually monitor transactions they facilitate, ensure they maintain and follow written procedures to identify and evaluate red flags of suspicious activities, and file SARs with FinCEN when appropriate. (Click here for a helpful overview of anti-money laundering requirements for broker-dealers, including SAR requirements. Click here for a similarly helpful compilation of AML resources for members of the National Futures Association.)

Moreover, covered institutions should ensure that problematic transactions identified by non-AML personnel (e.g., compliance staff) that may violate legal or regulatory standards are evaluated by AML personnel to determine whether a SAR should be filed with FinCEN. Indeed, the more consolidated a ledger a firm can maintain of potential problems identified across otherwise separate surveillance functions, the more likely a firm will be able to recognize and act holistically upon material red flags. 

  • Commodity Pool Operator Charged With Fraud in CFTC and Criminal Actions; Also Charged Criminally With Attempting to Obstruct CFTC Investigation: A criminal indictment naming commodity pool operator Harris Landgarten was filed in a federal court in Brooklyn, New York, last week, charging the defendant with commodities fraud and wire fraud, as well as attempting to obstruct an investigation by the Commodity Futures Trading Commission. Separately, the CFTC filed a civil action in the same court against Mr. Landgarten claiming that, from at least July 2014 through at least March 2017, he defrauded participants in a commodity pool he operated – Tradeanedge Members Fund. Among other things, the CFTC charged that Mr. Landgarten would withdraw funds from the pool to pay for purported fund expenses (in fact they were often personal expenses), but not reflect such withdrawals on the stated value of the pool to its three investors. As a result, the investors believe the pool was valued higher than it was. 

According to the indictment against Mr. Landgarten in May 2016, one investor filed a complaint against Mr. Landgarten with the Financial Industry Regulatory Authority and the National Futures Association because Mr. Landgarten failed to honor his request to return his investment in the pool. Both self-regulatory organizations referred the complaint to the CFTC. Between March 7 and 10, 2017, claimed the indictment, Mr. Landgarten affirmatively proposed to the investor that he withdraw his complaint from the CFTC and file an affidavit with the CFTC that he never was deceived or misled by Mr. Landgarten. Mr. Landgarten promised to return the investor’s investment in the pool only if the investor withdrew his CFTC complaint. On March 10, 2017, the investor rejected Mr. Landgarten’s proposal.

If convicted of the charges against him, Mr. Landgarten could be imprisoned 25 years. The CFTC seeks full restitution against Mr. Landgarten, disgorgement of all ill-gotten gains, a fine, and a permanent registration and trading ban, among other sanctions.

Legal Weeds: Late last year, James McDonald, the CFTC’s Director of its Division of Enforcement, indicated during multiple public speeches that potential wrongdoers who voluntarily self-report their violations, fully cooperate in any subsequent CFTC investigation, and fix the cause of their wrongdoing to prevent a reoccurrence will receive “substantial benefits” in the form of significantly lesser sanctions in any enforcement proceeding and “in truly extraordinary circumstances,” no prosecution at all.

According to Mr. McDonald, for a company to be credited for voluntarily self-reporting wrongdoing, the disclosure must be “truly voluntary… before an imminent threat of disclosure or of a Government investigation.” He also said the reporting must occur promptly after discovery and offer up “all relevant facts known to [the company] at the time.”Additionally, full cooperation, said Mr. McDonald, must involve ongoing revelation of facts as a company discovers them, including facts related to particular persons. Finally, the company must “timely and appropriately” remediate the conditions that led to the misconduct “to ensure that misconduct doesn’t happen again.” (Click here for details regarding the CFTC’s self-reporting policy in the article “New Math: Come Forward + Come Clean + Remediate = Substantial Settlement Benefits Says CFTC Enforcement Chief” in the October 1, 2017 edition of Bridging the Week.)

Settlements offered and agreed to by Deutsche Bank AG and its wholly owned subsidiary Deutsche Bank Securities Inc., as well as UBS AG in January 2018 in connection with CFTC enforcement actions claiming that the firms engaged in spoofing-type transactions in connection with the trading of futures contracts on United States market gave some insight into how the Division of Enforcement values cooperation.

Factually, the allegations against DB and UBS were materially similar. In both actions, traders at each firm engaged in alleged spoofing activity that constituted attempted manipulation for a significant period of time – in DB’s circumstance, from February 2008 through at least September 2014, and in UBS’s situation, from January 2008 through at least December 2013. Some facts varied in each enforcement action, but the agreed fine was US $30 million combined for DB and DBSI and $15 million for UBS. Although the CFTC acknowledged both firms’ cooperation in its investigations, the CFTC noted that, in connection with UBS, “[d]uring the course of an internal investigation, [the firm] discovered potential misconduct, of which the Division was previously unaware” and promptly self-reported the misconduct. The CFTC said that both firms’ fines were “substantially reduced” because of their cooperation, but UBS’s fine was one-half that of the DB entities’ combined fine.

Under the Division of Enforcement’s new math – come forward + come clean + remediate = substantial settlement benefits – it appears that, at least in these two matters, coming forward was worth a 50 percent savings off an already reduced settlement attributable to coming clean (Click here for further details regarding these enforcement actions in the article “CFTC Names Four Banking Organization Companies, a Trading Software Design Company and Six Individuals in Spoofing-Related Cases; the Same Six Individuals Criminally Charged Plus Two More” in the February 4, 2018 edition of Bridging the Week.)

More Briefly:

  • Former Portfolio Manager’s Conviction for Insider Trading Again Upheld by Federal Appeals Court: A split three-judge panel of the federal appeals court in New York again upheld the September 2014 conviction of Mathew Martoma, a former portfolio manager for S.A.C. Capital Advisors, LLC – then a hedge fund – for insider trading. The same divided panel previously upheld Mr. Martoma’s conviction in August 2017. (Click here for background facts relevant to this appeal and the panel’s prior decision in the article “Former Portfolio Manager’s Conviction for Insider Trading Upheld by Federal Appeals Court Despite Same Court’s Prior Contrary Reasoning” in the August 27, 2017 edition of Bridging the Week.) The panel reconsidered its earlier decision in order not to be inconsistent with a prior decision of the same federal appeals court in 2014 involving alleged insider trading by Todd Newman and Anthony Chiasson – also former portfolio managers. In that case, the court held that, in prosecuting the defendants, the US government failed to demonstrate that the initial insiders from whom defendants’ liability ultimately derived received sufficient personal benefit to establish their (let alone defendants’) securities law liability, in part, because there was no meaningfully close relationship between the persons. (Click here for background on this decision in the article “Appeals Court Sets Aside Insider Trading Convictions Saying Traders Distance From Corporate Insiders Too Far” in the December 14, 2014 edition of Bridging the Week.) The divided three-judge panel hearing Mr. Martoma’s appeal held that a meaningfully close relationship could be found where there is a shared relationship suggesting a quid pro quo, or that a tipper gifted information with the intent to benefit a tippee. Although the panel faulted the jury instructions for not requiring the jury to find either a quid pro quo relationship or a gift of inside information with an intent to benefit the tippee, it considered the error non-material. This was because, in this case, Mr. Martoma’s prior payment of US $70,000 consulting fees to the tipper demonstrated a personal benefit received by the tipper for disclosing inside information to Mr. Martoma with the expectation that Mr. Martoma would trade on it.

  • SEC OCIE Discloses Common Deficiencies With Investment Advises’ Best Execution Obligations: The Securities and Exchange Commission’s Office of Compliance Inspections and Examinations issued a risk alert identifying the most common deficiencies that staff has detected during recent examinations of investment advisers’ compliance with their best execution obligations for clients. Among other deficiencies, OCIE said that all advisers do not (1) maintain adequate policies and procedures or internal controls addressing best execution; (2) “periodically and systematically” evaluate the execution performance of broker-dealers they use to execute client transactions; (3) compare the quality and costs of services available from other broker-dealers; (4) fully disclose best execution practices; and (5) disclose soft dollar arrangements.

  • Four CME Clearing House Members Sanctioned for Setting Aside Insufficient Funds for Customers; CME Ends Emergency Suspension of Korean Broker to Access CME Group Markets: Four Chicago Mercantile Exchange clearing members agreed to pay fines of either US $100,000 or US $50,000 to the CME for failing to maintain sufficient funds at all times in their segregation, secured funds and cleared swaps customer accounts and, in some case, other violations. The Clearing House’s orders provided no insight regarding the facts related to the violations or their length. Separately, the CME ended its summary access denial to all CME Group exchanges by Hana Financial Investment. In May 2018, CME suspended Hana’s direct and indirect access to all CME Group markets for 60 days because of its alleged incomplete cooperation with “several” investigations from May 2017 through the present as well as its apparent netting of customer positions among independently owned and controlled accounts within omnibus accounts at “several” CME Group clearing members. (Click here for details in the article “CME Group Summarily Suspends Foreign Broker’s Access to All Its Markets for Not Cooperating Fully With Its Investigations and Purported Position Misreporting” in the June 3, 2018 edition of Bridging the Week.) The CME said that Hana had demonstrated to its Market Regulation staff that it now had the "ability" to comply with exchange rules regarding reporting positions in separate customer accounts on a gross basis, as required, and to provide "accurate and complete information" in response to Market Regulation inquiries. Additionally, Continental Energy Group, LLC agreed to pay a fine of US $70,000 to the New York Mercantile Exchange to resolve charges that, from May through September 2016, it entered into multiple block trades without reporting them within applicable time limits, and did not properly train its employees or have adequate procedures to review block trades before and after submission to ensure block execution times were accurate. This is the second disciplinary action brought by NYMEX in the last two months where the business conduct committee sanctioned a firm for not having procedures to review block trades before and after they were submitted to the exchange for accuracy. (Click here for background in the article “Introducing Broker Fined by NYMEX for Not Reporting Block Trade Times Accurately” in the June 17, 2018 edition of Bridging the Week.) Unrelatedly, RBC Capital Markets, LLC agreed to pay a fine of US $50,000 to the Cboe Futures Exchange as a result of reporting inaccurate open interest and large trader positions on "numerous dates" from May 2016 through August 2017. The errors were caused by programming errors by a third party service used by RBCCM.

  • CME Group Revises Disruptive Trading MRAN to Expressly Address Test Orders; IFUS Revises Crossing-Orders Protocol: CME Group amended its Market Regulation Advisory Notice regarding disruptive trading effective July 11 to add the entry of test orders to the list of non-actionable message types that could be used to facilitate prohibited activity. Moreover, the MRAN was amended to reflect that CME Group offers test products to facilitate connectivity and messaging testing at all times that CME Globex is available, not just during the pre-open. Separately, ICE Futures U.S. amended its guidance on pre-execution communications to provide an additional method of order entry to execute a futures cross trade. Futures orders that are a result of pre-execution communications may now be entered as crossing orders on the exchange’s electronic trading system, or by exposing one order to the ETS for a minimum of five seconds, before entering the opposing order.

  • CFTC Issues Report on CME Agricultural Block Trades; Does Not Find Material Anomalies: The Commodity Futures Trading Commission’s Market Intelligence Branch issued a report analyzing block trades in the grains, oilseeds and livestock markets at the Chicago Mercantile Exchange. The MIB found that block trades in agricultural markets constitute a very small portion of overall volume, but are more prevalent on specific dates and for certain contract months; block trades take place mostly in nearby months; market makers offset their block trades in the central limit order book and all block trades appear to be priced consistent with CME’s fair and reasonable standard. In a separate report, the MIB found after analyzing 2.2 billion transactions from 16 of the most actively traded futures contracts from 2012 through 2017 that neither the frequency or intensity of sharp price movements appears to be consistently increasing over time; sharp price increases appear attributable to volatility, market fundamentals and news and data releases and not the activity of principal trading groups and high-frequency trading; and US commodity futures markets are very efficient.

©2018 Katten Muchin Rosenman LLP

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About this Author

Gary DeWaal, Securities Attorney, Katten Law Firm, New York
Special Counsel

Gary DeWaal focuses his practice on financial services regulatory matters. He counsels clients on the application of evolving regulatory requirements to existing businesses and structuring more effective compliance programs.

Previously, Gary was a senior managing director and group general counsel for Newedge, where he oversaw the worldwide Legal, Compliance, Financial Crimes Prevention (including AML) and Regulatory Developments departments. He also worked for the US Commodity Futures Trading Commission's Division of Enforcement in New York. For several years, Gary taught a course...

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