A shortened work-week in the United States because of the Independence Day holiday still saw a few important developments impacting firms in the financial services industry, including still yet another case regarding the location where the SEC should bring enforcement actions (i.e., federal court or administrative tribunal) and a CFTC proposal regarding uncleared swaps margin in cross-border transactions. As a result, the following matters are covered in this week’s abbreviated Independence Day holiday version of Bridging the Week:
- China Regulator Issues Final Interim Measures Governing Overseas Access to Its Futures Markets (includes Helpful to Getting the Business Done);
- Goldman Sachs Pays US $7 Million to SEC for Alleged Reg MAR Breakdown (includes My View);
- CFTC Proposes to Apply Margin Obligations for Uncleared Swaps in Cross-Border Transactions on Broad Range of US Entities; Substituted Compliance Potentially Available;
- “Diva of Distressed” Loses Bid to Have SEC Enforcement Action Heard in Federal Court, Not Administrative Tribunal;
- Deloitte & Touche Settles SEC Charges for Violating Auditor Independence Rules;
- FINRA Expresses Formal Support for Members of Disciplinary and Appellate Panels Who Have Become Subjects of Alleged Disparaging Online Attacks; and more.
(There is no video version of Bridging the Week in this abbreviated edition.)
- China Regulator Issues Final Interim Measures Governing Overseas Access to Its Futures Markets: The China Securities Regulatory Commission issued final interim measures to permit trading by overseas investors on China’s futures markets. Pursuant to these measures, overseas customers will be permitted to trade approved futures either through Chinese or overseas brokers, or directly through exchange facilities. Only local brokers can directly clear approved products for foreign nationals on domestic exchanges. Under the proposed interim measures, it appeared possible that qualified overseas brokers might be authorized to establish entities in pilot-free trade zones in China to offer clearing services too, but this proposal was eliminated in the final interim measures. (Click here to access an overview of the proposed interim measures in the January 23, 2015, client advisory, “China Regulator Proposes to Permit Designated Domestic Futures Contracts to be Traded by Foreigners,” by Katten Muchin Rosenman LLP.) Local newspapers in China reported that CSRC proposes to complete work to launch the crude oil futures contract on the Shanghai International Energy Exchange (INE) over the next three months; this would be the first China futures product accessible to foreigners (click here to read a sample article). Previously INE published proposed rules to accommodate trading in its crude oil contract; these rules have not yet been finalized. (Click here for further details regarding these proposed rules in the article, “Shanghai International Energy Exchange Releases Proposed Rules to Govern Overseas Traders” in the March 22, 2015, edition of Bridging the Week.)
Helpful to Getting the Business Done: After so many years of anticipation, it is very significant that the opening of China's futures markets to foreigners may be only three months away. This is an exciting development that presents potential new opportunities to a wide range of futures market participants. Traders, end users, and Futures Commission Merchants should be studying these new rules to determine how they may be beneficial to their businesses. (Click here for a summary of material developments in China's futures market in the article, "China's Futures Markets: The Door Opens Another Crack More" that I authored in the March 9, 2015 edition of Futures Industry Magazine.)
- Goldman Sachs Pays US $7 Million to SEC for Alleged Reg MAR Breakdown: Goldman Sachs & Co. agreed to pay a fine of US $7 million to the Securities and Exchange Commission related to alleged programming and oversight errors that caused an avalanche of unintended sell orders to be entered on US options exchanges on August 20, 2013, prior to market open. As a result of these alleged errors, GSCO received executions on a portion of the sell orders representing 1.5 million options contracts, and sustained a loss of approximately US $38 million. According to the SEC, GSCO’s problems “resulted from a series of failures in [its] then-existing system of risk management controls and supervisory procedures.” The SEC claimed that, prior to August 20, GSCO had been consolidating certain client service functions previously operated by an affiliated broker dealer into GSCO, and configured software to facilitate this. Following implementation of the new configuration, said the SEC, certain types of internal orders that were never intended to go to an options exchange without a matching customer order inadvertently were permitted to route to exchanges. This, the SEC claimed, was because one employee did not “fully understand the technical operation of the new … options order flow at the time he performed the configuration.” Also, noted the SEC, his work was not adequately reviewed prior to implementation. Moreover, alleged the SEC, after the avalanche of sell orders began on August 20, another GSCO employee disengaged certain circuit breaker blocks that were meant to limit potentially large volumes of unintended orders that had been triggered by the large volume without receiving any authorization. As a result of these and other alleged breakdowns, the SEC charged GSCO with wilfully violating various provision of "Reg MAR" — the SEC's market access rule. Generally, Reg MAR requires broker-dealers with market access to establish and maintain a system of risk management controls and supervisory procedures reasonably designed “to manage the financial, regulatory and other risks” associated with providing market access. GSCO settled the SEC matter without admitting or denying any of the Commission’s findings.
My View: Although settlements help limit potential damages and litigation costs, as well as minimize the time officers and employees need dedicate to litigation, they deny respondents the opportunity to present their side of the story publicly. Without knowing anything more about this matter other than what I read in the relevant SEC order, it is hard to imagine that, if given a chance, GSCO wouldn’t have argued (as it appears to have been the case) that it had policies and procedures reasonably designed to ensure its compliance with Reg MAR, but they weren’t perfect and a few employees violated the spirit if not the letter of those policies — giving rise to the firm’s August 20, 2013 problems. However, as a result of its settlement, GSCO is required to be mute and we will never know its side of this story. As I told a reporter last week when she asked me whether today, could an SEC or Commodity Futures Trading Commission registrant be prosecuted if they were cyber hacked despite a lack of specific regulatory proscriptions — yes, of course! It would not matter whether a specific regulation applied. If regulators determine something is problematic (e.g., an event causes a media sensation), even if not expressly prohibited, they may use existing tangential regulations to prosecute the perceived offense, and a firm will be left with the uneasy option of fighting the regulatory action at great cost (even if to a successful end), or settling at a likely lesser cost and biting its proverbial lips. Unfortunately, a policy and procedure that appears reasonably designed when implemented, may be considered unreasonable after the fact if it was not perfect in anticipating every conceivable breakdown -- if the breakdown caused a noticeable public event, as happened on August 20, 2013. That's not supposed to be the standard (certainly not under Reg MAR), but, unfortunately, it's the regulatory reality.
- CFTC Proposes to Apply Margin Obligations for Uncleared Swaps in Cross-Border Transactions on Broad Range of US Entities; Substituted Compliance Potentially Available: The Commodity Futures Trading Commission proposed rules to apply uncleared margin requirements to certain US-based swap dealers and major swap participants and their overseas affiliates that engage in cross-border swap transactions. Under the proposed rules, however, substituted compliance with local uncleared margin requirements judged comparable by the CFTC might be possible for initial margin collected by the non-US entity. The CFTC’s proposed new rules would apply to SDs and MSPs that are not subject to a prudential regulator (e.g., the Board of Governors of the Federal Reserve System) — so-called “Covered Swap Entities” (CSE). In general, where a (1) US-based CSE, or (2) a non-US CSE or subsidiary whose financial statement is consolidated with a US parent (a so-called “Financial Consolidated Subsidiary” (FCS)) and guaranteed by a US person enters into a swap transaction with a non-US person (including non-guaranteed, non-US CSEs or FCSs), substituted compliance may be available for initial margin posted with the non-US entity. Both Commissioners Mark Wetjen and J. Christopher Giancarlo supported issuance of the proposed rules, but voiced concerns regarding elements of the proposal. Comments are due by 60 days after publication of the proposed rules in the Federal Register.
- “Diva of Distressed” Loses Bid to Have SEC Enforcement Action Heard in Federal Court, Not Administrative Tribunal: Lynn Tilton, the so-called “Diva of Distressed,” has lost in her bid to have an enforcement action by the Securities and Exchange Commission against her heard in a federal court instead of an SEC administrative tribunal. On March 30, 2015, the SEC commenced administrative proceedings against Ms. Tilton, and companies she owns and controls claiming that, since 2003, the respondents misled investors about the declining value of assets in collateralized loan obligation funds they managed. In response, the respondents filed a lawsuit against the SEC in federal court in New York City seeking to enjoin the agency from proceeding with the administrative proceeding, and instead require it to proceed against respondents in a federal court. Among other things, the respondents claimed that the SEC process for appointing and removing administrative law judges violated the so-called “Appointments Clause” of the US Constitution. (Click here for further details in the article, “SEC Charges Investment Advisers and Owner of Misleading Investors in Funds Regarding the Poor Performance of Underlying Assets; Respondents Sue SEC Right Back” in the April 5, 2015, edition of Bridging the Week.) In holding against the respondents, the federal court did not address any substantive arguments. Instead, it solely determined that the administrative law judge proceeding and the SEC itself, in the first instance, were the appropriate forum to hear the respondents constitutional arguments. Recently, a federal court in Georgia held that an administrative proceeding by the SEC was unconstitutional and that “requiring Plaintiff to pursue his claims following the SEC’s administrative process ‘could foreclose all meaningful judicial review’ of his constitutional claims.” (Click here for further details in the article, “Georgia Federal Court Holds SEC Administrative Proceeding Unconstitutional” in the June 14, 2015 edition of Bridging the Week.) Ms. Tilton hosted a 2011 reality show on the Sundance Channel, entitled, “Diva of Distressed.”
- Deloitte & Touche Settles SEC Charges for Violating Auditor Independence Rules: Deloitte & Touche LLP agreed to remit payment to the Securities and Exchange Commission of more than US $1.1 million for alleged violations of its auditor independence rules. This violation occurred, claimed the SEC, when Deloitte’s consulting affiliate, Deloitte Consulting LLP, entered into a business relationship with Andrew Boynton, who served on the boards of trustees and audit committees of three D&T SEC-registered investment company audit clients. This business relationship, which lasted from 2006 to 2011, involved Deloitte Consulting’s purchase from Mr. Boynton of intellectual property rights to a certain brainstorming business methodology, and use of Mr. Boynton to train both internal and external clients regarding the methodology, claimed the SEC. The SEC named D&T, Mr. Boynton and ALPS Fund Services, Inc., which provided administrative services to each of the relevant investment companies, in its enforcement action. The SEC claimed its rules prohibited Deloitte Consulting’s relationship with Mr. Boynton while D&T regularly issued audit reports for the investment companies with which Mr. Boynton also was associated. To settle this matter, D&T agreed to pay a fine of US $500,000, and disgorgement and prejudgment interest in excess of US $600,000. ALPS agreed to pay a fine of US $45,000, and Mr. Boynton a fine of US $25,000 plus disgorgement of US $30,000.
- FINRA Expresses Formal Support for Members of Disciplinary and Appellate Panels Who Have Become Subjects of Alleged Disparaging Online Attacks: The Financial Industry Regulatory Authority expressed formal support for Chris Brummer and other members of a FINRA appellate council in light of alleged disparaging online attacks they have sustained following the decisions of a FINRA disciplinary panel and the appellate council to bar two individuals — William Scholander and Talman Harris — from associating with any FINRA firm for alleged securities law violations (click here to access the relevant decision of the FINRA National Adjudicatory Council). Mr. Brummer, a professor of law at Georgetown University Law Center, served as a member of the FINRA appellate council. According to a lawsuit filed in a New York State court by Mr. Brummer, Benjamin Wey — who allegedly was a business associate of the two individuals — has made allegedly defamatory attacks in an online publication, “TheBlot Magazine,” against FINRA, the FINRA disciplinary committee panelists who issued the initial decision and members of the advisory counsel, including Mr. Brummer, that upheld the decision. According to FINRA, “FINRA commends Georgetown Law Professor Chris Brummer and other National Adjudicatory Council… members for their ongoing contributions to FINRA's mission despite online attacks.”
And even more briefly:
- CME Group Fines Firm for Position Limits Violation: Tanyard Creek Capital LLC, a commodity trading advisor, is required to pay a fine of US $25,000 and to disgorge profits of US $7,128 related to its alleged violation of CME Group spot month position limits in Lean Hog futures on October 8, 2012. According to CME Group, Tanyard was aware it had to reduce its positions by the close of trading on the fifth business day of the spot month (when the position limits became effective for the contract), but did not. Disgorgement was based solely on that portion of Tanyard’s position that was in violation of the position limit, said CME Group. [Corrected from an earlier version which incorrectly said the fine was agreed; the amount of the fine was determined after a contested hearing.]
- Singapore Commences Consultation on Mandatory Swaps Clearing: The Monetary Authority of Singapore issued proposed regulations related to the mandatory clearing of swaps. MAS proposes to mandate clearing by asset class, beginning with Singapore dollar and US dollar interest rate swaps. Only banks that have booked in Singapore SGD 20 billion or more (approximately US $14.9 billion) gross notional value of over-the-counter derivatives in each of the prior four quarters will be subject to mandatory clearing obligations. MAS does not expect cross-border conflicts as a result of its new rules as it expects to recognize clearinghouses that meet Commodity Futures Trading Commission and European Securities and Markets Authority requirements. MAS expects to finalize its rules by year-end, with compliance being required in 2016. Comments will be accepted by MAS through July 31. In May, the Australian Securities and Investments Commission also issued a consultation paper proposing to require the mandatory clearing of certain classes of over-the-counter interest rate swaps. (Click here for details regarding Australia's recently proposed swaps clearing obligations in the article, "ASIC Consults on Mandatory Clearing Obligation for Certain Interest Rate Swaps and Cross Border Application of Rules" in the May 31, 2015 edition of Bridging the Week.)
- LME Provides Feedback on Warehouse Reforms Proposal: The London Metal Exchange issued feedback on comments it received to its prior proposals to reform its warehousing policy and physical delivery network, and issued new proposals to help eliminate backlogs in removing metals from warehouses. Among other things, the LME proposes to increase the minimum load-out rate and to impose a cap on the rent charged for metal waiting to be removed. Comments are due by August 17. (Click here for additional background in the article, “LME Proposes Further Reforms to Reduce Warehouse Delivery Delays” in the March 8, 2015, edition of Bridging the Week.)
- CME Group Requires Firms Connecting to the CME Globex Platform to Recertify Trading Systems by April 1, 2016: CME Group announced that all firms with direct connections to the Globex platform through its iLink gateway must recertify their front-end/order routing systems by April 1, 2016, to demonstrate their ability to display data in a newly required format. (Click here for further details in the article, “CME Group Updates Audit Trail Requirements for Electronic Systems Connecting to Globex” in the April 5, 2015, edition of Bridging the Week.)
For more information, see:
CFTC Proposes to Apply Margin Obligations for Uncleared Swaps in Cross-Border Transactions on Broad Range of US Entities; Substituted Compliance Potentially Available:
China Regulator Issues Final Interim Measures Governing Overseas Access to Its Futures Markets:
China Interim Measures:
China Interim Measures (redlined against proposed Interim Measures):
(Translation and redlining courtesy of Shanghai office staff of Katten Muchin Rosenman LLP)
CME Group Fines Firm for Position Limits Violation:
CME Group Requires Firms Connecting to the CME Globex Platform to Recertify Trading Systems by April 1, 2016:
Deloitte & Touche Settles SEC Charges for Violating Auditor Independence Rules:
“Diva of Distressed” Loses Bid to Have SEC Enforcement Action Heard in Federal Court, Not Administrative Tribunal:
FINRA Expresses Formal Support for Members of Disciplinary and Appellate Panels Who Have Become Subjects of Alleged Disparaging Online Attacks:
See also, Brummer v. Wey et al. (Complaint):
Goldman Sachs Pays US $7 Million to SEC for Alleged Reg MAR Breakdown:
LME Provides Feedback on Warehouse Reforms Proposal:
Singapore Commences Consultation on Mandatory Swaps Clearing:
The information in this article is for informational purposes only and is derived from sources believed to be reliable as of July 2, 2015. No representation or warranty is made regarding the accuracy of any statement or information in this article. Also, the information in this article is not intended as a substitute for legal counsel, and is not intended to create, and receipt of it does not constitute, a lawyer-client relationship. The impact of the law for any particular situation depends on a variety of factors; therefore, readers of this article should not act upon any information in the article without seeking professional legal counsel. Katten Muchin Rosenman LLP may represent one or more entities mentioned in this article. Quotations attributable to speeches are from published remarks and may not reflect statements actually made.
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