Bridging the Week by Gary DeWaal: August 24 - 28 and 31, 2015 (Net Capital, Flash Boys, Forum Choice, AML, Investment Advisers and Regulatory Equivalency)

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Published Date: August 30, 2015

In a flash, five complaints against various stock exchanges and two non-exchange entities based on allegations in Michael Lewis’s 2014 book entitled Flash Boys: A Wall Street Revolt were dismissed by a US district court in New York. Meanwhile, a federal appellate court in New York upheld a decision by a US district court refusing the plaintiff’s challenge at this time of the constitutionality of her Securities and Exchange Commission enforcement proceeding brought in an administrative as opposed to a federal court tribunal. Moreover, investment advisers may soon be subject to anti-money laundering and related requirements if FinCEN has its way. As a result, the following matters are covered in this week’s edition of Bridging the Week:

Bridging the Week will likely not be published on September 7, 2014. The next scheduled Bridging the Week will be on September 14, 2014.

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Compliance Weeds: As at the CME Group and other exchanges, ICE Futures U.S. has strict rules governing the execution and reporting of block trades. These requirements address the qualified participants eligible to execute block trades, minimum thresholds, prices, reporting requirements and other limitations (click here to access IFUS Rule 4.07). Moreover, “[p]arties involved in the solicitation or negotiation of a block trade may not disclose the terms of a block trade to non-involved parties prior to the block trade being publicly reported by the Exchange” or take advantage of non-public information for their own advantage. (Click here to access ICE Futures U.S. Block Trades – FAQs (June 19, 2015).) Block traders must follow precisely these requirements not only to avoid potential violations of IFUS’s requirements, but the CFTC requirement that approved non-competitive transactions (including block trades) must be executed in accordance with exchange rules. (Click here to access background on the CME Group’s block trade rules in the article “CME Group Files Disciplinary Actions for Trading Ahead of Block Trades and Failure to Supervise an Employee Engaging in Disruptive Trading Activities” in the August 23, 2015 edition of Bridging the Week.)

My View: Ms. Bebo is irreparably harmed by being required to go through the expense and ordeal of having to raise before the Securities and Exchange Commission her constitutional objection to having an enforcement action brought against her by the SEC in an administrative tribunal. Ms. Bebo’s action is a collateral action to the administrative enforcement proceeding that is properly heard by a federal court. Such a view is consistent with the better view expressed in two recent federal district court cases in New York and Georgia. It defies common sense to believe that the SEC – a securities regulator – has expertise and the requisite impartiality to determine the constitutionality of a law that gives it the choice to determine whether enforcement actions should be heard in a federal court or an administrative tribunal. (Click here for background about the New York and Georgia court decisions in the article “Federal Judges in NY and Georgia Rule Against SEC for Enforcement Action Forum Choice Because of ALJ Selection Process” in the August 14, 2015 edition of Bridging the Week.)

My View: Although in evaluating minimum margin-collection requirements of clearinghouses and brokers ESMA makes clear that it is not attempting to prejudice deliberations of the European Commission “on the equivalence of the legal and supervisory regimes for CCPs in the USA,” in fact, ESMA is showing its cards. According to ESMA, “a preliminary comparison … has shown that the margins held at the CCP according to the gross margining method in combination with a one-day liquidation period are (typically, but not always) higher than margin requirements calculated according to the net margining method in combination with a two-day liquidation.” Moreover, with gross margining, clearing members post more client assets with a clearinghouse than hold it themselves; this should make porting of client positions easier in case of a clearing member default. In light of this, the European Commission should quickly conclude that oversight by the Commodity Futures Trading Commission over US clearinghouses is equivalent (if not identical) to EC oversight over European CCPs in order to avoid European banks being subject to putative capital requirements for exposure to US clearinghouses. Enough dithering! (Click here for background on the relevant issues in the article “CFTC Chairman Argues for Equivalent Treatment for US CCPs by the European Commission; EC and CFTC Commit to Continue Talking—That’s All for Now” in the May 10, 2015 edition of Bridging the Week.)

Helpful to Getting the Business Done: In considering the arguments in the debate regarding sufficient liquidation horizons at the clearinghouse level, exchange-traded and/or centrally-cleared derivatives brokers should not lose sight of the fact that, following a client default, it might take multiple days (far more than one or two), if not weeks, to liquidate a complex client portfolio involving illiquid products, particularly those including some options and swaps. ETD brokers should regularly evaluate the liquidity of their clients' positions and adjust margin requirements or take other precautions accordingly, or at least ensure they are adequately compensated for the risk they incur in holding illiquid products for clients. 

And more briefly:

For more information, see:

Appellate Court Rules Plaintiff Cannot Challenge SEC Forum Choice in Federal Court at This Time:

CFTC Approves NFA Enhanced Customer Protection Rules for FX Retail Clients; Commissioner Bowen Says More Protection Needed:

CFTC Approval:
Commissioner Bowen Concurrence:
NFA Rule Submission:

Charles Schwab Fined US $2 Million by FINRA for Net Capital Deficiencies:

ESMA Seeks Comments on Appropriate Liquidation Periods for Exchange-Traded Derivatives for CCP Margin Setting:

FinCEN Proposes AML and SAR Requirements for Investment Advisers:

Flash Boys-Inspired Litigation Dismissed by Federal Judge:

ICE Futures Canada and Montreal Exchange Authorized by CFTC to Provide Direct Access to US Persons:

ICE Canada:
Montreal Exchange:

IFUS Sanctions West Oaks Energy Over US $415,000 for Position Limit Violations; Other Firms Fined for Pre-Execution Communication, Block Trades and EFRP Rule Infractions:

BNP Paribas Commodity and Jason Spaziante:
Noble Companies:
Spectron Energy:
West Oaks Energy:

Sentinel Principal Ordered to Pay More Than US $2 Million by Federal Court:

UBS Agrees to Pay US $1.7 Million Penalty for Allegedly Conducting Business With OFAC Banned Person:

The information in this article is for informational purposes only and is derived from sources believed to be reliable as of August 29, 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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Gary DeWaal

Gary DeWaal is currently Special Counsel with Katten Muchin Rosenman LLP in its New York office focusing on financial services regulatory matters. He provides advisory services and assists with investigations and litigation.

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