Bridging the Week by Gary DeWaal: February 25 – March 1 and March 4, 2019 (Appeal Not Appealing; Purported Fraudster Indicted for Fraud)

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Published Date: March 03, 2019

The Commodity Futures Trading Commission determined not to appeal a decision of a federal court that a well-known proprietary trading firm and its principal did not engage in manipulation or attempted manipulation as charged by the Commission in an enforcement action because they traded in a manner that exploited a flawed futures contract. Unrelatedly, the founder and principal operator of a company that marketed a purportedly fraudulent cryptocurrency was indicted for wire fraud and unlawful monetary transactions in a US federal court in Massachusetts. As a result, the following matters are covered in this week’s edition of Bridging the Week:

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Although the CFTC did not announce the reason for its decision, it noted that “[w]hile the agency will not move forward with this case, it will continue to vigorously enforce the Commission’s anti-manipulation provisions and prosecute cases through trial where necessary.”

In its complaint and during the trial, the CFTC claimed that the defendants engaged in their prohibited conduct by placing bids involving the relevant futures contract “that DRW knew would never be accepted” to artificially influence the settlement prices in their favor on at least 118 trading days in a “banging the close” scheme. However, the court said that it was not manipulation or attempted manipulation for defendants to take advantage of flawed exchange rules that were public information where their bids reflected their bona fide perception of fair value and were designed to induce liquidity. 

(Click here for further background on the DRW decision in the article “Being Smarter Than Your Counterparties Is Not Manipulation Rules Judge in CFTC Enforcement Action” in the December 9, 2018 edition of Bridging the Week.)

Legal Weeds and My View: In its complaint against defendants, the CFTC solely relied on the traditional provisions in relevant law prohibiting manipulation and attempted manipulation. (Click here to access 7 U.S.C. § 9(3) (prior to D0dd-Frank, effectively 7 U.S.C. § 9) and here for 7 U.S.C. § 13(a)(2) – the CFTC’s traditional anti-manipulation authorities.) In order to prove manipulation, said the court, the CFTC had to show that (1) the defendants had the ability to influence market price, (2) an artificial price existed, (3) defendants caused the non-bona fide price, and (4) defendants intended to cause the non-legitimate price. The court noted that, to show attempted manipulation, the Commission did not have to prove an artificial price existed, but had to demonstrate that defendants intended to cause an artificial price. The court ruled that the CFTC did not prove that the defendants violated either provision of law.

In its DRW complaint, the CFTC did not charge the defendants with violating the fraud-based manipulation prohibition enacted under the Dodd-Frank Wall Street Reform and Consumer Protection Act. This was because defendants’ purported wrongful trading predated the effective date of this provision. Under this law and a rule promulgated by the CFTC in conjunction with this statute, it is prohibited for any person to intentionally or recklessly engage in “any manipulative device, scheme or artifice to defraud.” (Click here to access 7 U.S.C. § 9(1); click here for CFTC Rule 180.1.)

For factual situations arising on or after August 15, 2011 – the effective date of CFTC fraud-based manipulation rule –, nothing precludes the CFTC from charging a defendant with both a violation of the traditional manipulation provisions of law and with a violation of the new fraud-based manipulation prohibitions. 

In determining not to appeal the DRW decision, the CFTC may very well have considered that, since it now has the authority to prosecute alleged manipulation and attempted manipulation under the lesser requirements of fraud-based manipulation, its overall enforcement program is less harmed by an adverse decision of a federal trial court grounded on a discrete fact pattern (e.g., a purportedly flawed futures contract), than a potential adverse outcome in a federal court of appeals that would have greater precedential weight. 

Indeed, contemporaneously with publication of the DRW decision, CFTC Chairman J. Christopher Giancarlo issued a statement noting that the court’s decision in DRW solely involved “CFTC’s pre-Dodd-Frank legal authority.” (Click here to access the chairman’s December 3, 2018 statement.) 

In any case, the Commission's decision not to appeal was correct. The bottom-line message of the trial court hearing DRW was compelling: it's not illegal to be smarter than your competitors!

In January 2018, the Commodity Futures Trading Commission filed an enforcement action against MBCPI, Mr. Crater, and Mark Gillespie for allegedly engaging in a virtual currency scheme that misappropriated approximately US $6 million from 28 or more persons. In its civil case filed in the same federal court in Massachusetts, the CFTC charged the defendants with making false or misleading statements to customers and fraud. (Click here for details in the article “CFTC Sues Unregistered Company and Promoters of Fake Virtual Coin for Alleged Fraud and Operating Purported Ponzi Scheme” in the January 28, 2018 edition of Bridging the Week.)

According to the criminal indictment, between 2014 and 2017, Mr. Crater purportedly solicited investors to purchase My Big Coins, claiming they were functioning and valuable virtual currencies backed by gold and other assets. However, alleged the indictment, My Big Coins had no value and were not backed by any precious metal or other asset. As did the CFTC, the indictment claimed that Mr. Crater misappropriated US $6 million of investor funds for personal use.

Previously, defendants in the CFTC’s civil case involving MBCPI made a motion to dismiss, claiming the CFTC had no jurisdiction to bring enforcement actions against persons engaged in purported fraudulent activities involving cryptocurrencies. In September 2018, the court held that cryptocurrencies are commodities as defined under applicable law, and that the CFTC’s authority to bring enforcement actions under its fraud-based manipulation authority extends to fraud cases that are not necessarily also grounded in illicit market conduct. (Click here for background in the article “Second Federal Court Rules That Cryptocurrencies Are Commodities and CFTC Has Anti-Fraud Jurisdiction Over Alleged Wrongdoing” in the September 30, 2018 edition of Bridging the Week.)

Other legal or regulatory matters involving cryptoassets:

My View: Both the CFTC and Securities and Exchange Commission have provided extensive guidance regarding what they believe falls within their regulatory remit related to cryptoassets. Courts are also beginning to weight in with greater frequency. However, legislators and regulators must be cognizant of the potentially inhibiting impact of government agency edict and case law arising from purportedly fraudulent conduct by nefarious persons in the development of potentially innovative and societally useful new technologies – such as distributed ledger technology.

More Briefly:

For further information

Former Futures Trader Settles CFTC Action for Spoofing:

CFTC Accepts Federal Court Ruling in Market Manipulation Case but Still Committed to the Cause:

CFTC Commissioners Continue to Spar Over Proposed SEF Rules’ Revisions:

Data Collection Practices of CFTC To Be Reviewed Under New Initiative:

NFA to MembersDon’t Say We Didn’t Remind You:

OCC Once Again Tells Court That DFS Lawsuit Challenging FinTech Charter Still Before Its Time:

Purported Cryptocurrency Fraudster Indicted for Fraud; Previously Sued by CFTC:

US and UK Regulators Pledge No Traffic Stops in Derivative Markets No Matter What Road Brexit Takes:

The information in this article is for informational purposes only and is derived from sources believed to be reliable as of March 2, 2019. 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. Views of the author may not necessarily reflect views of Katten Muchin or any of its partners or other employees.

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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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